How to Protect Your Pension in Divorce

Divorce can take a substantial emotional toll, but it can also have a lasting impact on your financial status. Separating your assets from those of your spouse can be particularly tricky when your pension plan is at stake. Typically, a pension earned by one spouse is considered a joint asset of both, which means it's subject to division in divorce. If a marital split is in the works, here's what you can do to shield your pension benefits as much as possible.

The first step in managing your pension while going through a divorce is knowing what the rules are for your state. While a pension can be divvied up between spouses during divorce, that division isn't automatic. Your soon-to-be ex would have to make a specific request for a share of whatever you've accumulated before the divorce is finalized. Generally, they would have to file something known as a Qualified Domestic Relations Order (QDRO) before any financial benefit from a pension or other retirement accounts, such as a 401(k), can be granted. 

In terms of how much a husband or wife is entitled to, the rule of thumb is to slice pension benefits earned during the course of the marriage right down the middle. While that means your spouse would be able to lay claim to half, he or she would be limited to only what was earned once your union became official. If you were enrolled in a defined-benefit plan for 10 years prior to tying the knot, for example, any contributions you or your employer made on your behalf during that time period wouldn't count towards the amount a spouse could seek in a divorce.

Once you're familiar with the rules governing the division of pensions in your state, the next step is to take a closer look at how the plan works. There are two key elements to focus on here: the method by which payments are distributed and whether the plan offers a survivor's benefit.

With a pension, you normally have a choice between receiving a lump-sum payment or a monthly annuity. If your plan features a single-life payout and you choose the annuity option, the payments would stop at your death. On the other hand, if the plan has a joint-life payout, your spouse would continue receiving payments from the plan after your death. 

It's important to understand how the plan works because it affects how you'll divide up the assets as part of the divorce. If you have a single-life payout, for example, your spouse would be subject to whatever payment option you've chosen. If your plan offers survivor benefits, the easiest course may be to persuade your spouse to maintain that benefit, rather than seeking a lump-sum distribution. Your ex would have to include those benefits in his or her gross income but may be able to claim a deduction for estate tax.

If you don't want to hand over half of your pension, giving your spouse other assets may be the best solution. If you own a home together mortgage-free, for example, you could allow your ex to retain ownership in exchange for waiving any rights to your pension. Buying a life insurance policy equal to the amount of pension benefits your ex would be entitled to and naming him or her as the beneficiary is another option. Essentially, you're offsetting what your ex would get from the pension with something else of equal value.

You may have an out if your spouse also has a pension or other retirement assets he or she wants to protect. If both of you are sitting on nest eggs that are relatively similar in size, agreeing to walk away with what you already have can be a less time-consuming way to resolve the issue than nitpicking over dollars and cents.

Getting divorced is no picnic and it pays to be smart about how you tackle the various financial issues that are involved. That's especially true when your retirement is on the line. Before signing off on a division of your pension, take time to understand what your rights are and what options you have for working towards a compromise that will satisfy both you and your future ex-spouse.