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Qualifi ed Domestic Relations Orders(QDRO)
Table of Contents
Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Questions and Answers . . . . . . . . . . . . . . . . . . . . . . 2 to 5• What should I do when a Domestic Relations Order (DRO) is received?
• What makes a DRO qualifi ed?
• How are the retirement funds split?
• When can an alternate payee receive a distribution?
• How are the retirement funds taxed when received by the alternate payee?
Administrative Procedures . . . . . . . . . . . . . . . . . . . . . 6 to 10• Developing Administrative Procedures
• Additional Items to Consider
– Benefi ciary Designation
– Distributions
– Hardship Withdrawals
– Investment Direction
– Life Insurance
– Loans
– Segregation of Retirement Funds
– Survivor Rights
– Vesting
QDRO Defi nitions . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
1
Introduction
When one of your plan participants goes through a divorce or separation or makes
arrangements for child support, the account the plan holds for the benefi t of that participant
may become part of the settlement. If this is the case, as Plan Administrator, you will receive
a domestic relations order (DRO).
A DRO is a judgment, decree, or order (including approval of a property settlement agreement)
made pursuant to state domestic relations law (including community property law) relating to
child support, alimony payments, or marital property rights to a spouse, former spouse, child,
or other dependent of a participant.
Federal regulations require you, as the Plan Administrator, to determine if the DRO is qualifi ed,
or a qualifi ed domestic relations order (QDRO). A QDRO is a domestic relations order that
creates or recognizes an alternate payee’s right to receive all, or a portion of, the retirement
funds payable to a participant under a qualifi ed retirement plan. An alternate payee may be a
spouse, former spouse, child or other dependent of the participant.
The law defi nes required elements of a QDRO, procedures that must be followed, and
rights of certain parties to certain protective measures.
Plan Administrators are required to have procedures in place for determining the qualifi ed
status of DROs and for making QDRO distributions.
According to the Department of Labor (DOL), the procedures must:
• Be in writing,
• Be reasonable,
• Provide that each person specifi ed in a domestic relations order received by the
plan be notifi ed of the plan’s administrative procedures for making QDRO
determinations, and permit an alternate payee to designate a representative to
receive copies of notices and plan information.
The summary plan description booklet must contain either the QDRO procedures or a
statement that the QDRO procedures are available without charge, including instructions
on how to obtain them.
Your QDRO procedures should be designed to ensure QDRO determinations are made in a
timely, effi cient, and cost-effective manner.
This is where we come in. Our goal is to anticipate and
meet your needs. That’s why we’ve put together this booklet
to help you with these procedures.
2
Questions and answers
What should I do when a DRO is received?
When a DRO is received, you must:
1) Promptly notify the participant and each alternate payee of the receipt of a DRO.
2) Mail a copy of the plan’s QDRO procedures to the participant and alternate payee.
3) Notify your contact at the Principal Financial Group® as soon as possible that a DRO was
received for the participant and request a hold be placed on the account the plan holds
for the benefi t of the participant.1
4) Determine if the order is qualifi ed within a reasonable period of time after receiving the order.2
5) Once the determination is made, a notice must be sent to the participant and alternate
payee advising them whether the DRO is qualifi ed.
6) Send a copy of the determination notice to your contact at The Principal®.1
The Internal Revenue Code and ERISA require you to separately account for the amounts
that would be payable to the alternate payee for a period of 18 months. The 18-month
period begins when the fi rst payment is required under the order.
During the determination period, you must not make any distributions to the participant of the
retirement funds that may be payable to the alternate payee if the DRO is determined qualifi ed.
If you have determined an order is qualifi ed within 18 months after benefi ts were supposed to
start, you are to pay the segregated amounts and interest to the designated alternate payee.
If, within the 18-month period, an order is determined to not be qualifi ed or a determination
has not been made, the segregated amounts and interest earned on these amounts are paid
to the person who would have received the amounts if the order had not been issued.
(Note: Any actual benefi t payments are governed by the terms of the retirement plan and
the QDRO.)
Once a DRO is determined to be qualifi ed, ERISA requires the alternate payee be treated as a
benefi ciary under the retirement plan. The alternate payee should receive the summary plan
description, summaries of material plan changes, and summary annual reports until the
entire award amount is paid.
1 This step is not required by law, but it helps The Principal properly record-keep your retirement plan.2 The Plan Administrator is initially responsible for determining if an order is a QDRO. You should consult your legal
counsel before taking any action.
3
What makes a DRO qualifi ed?
To be qualifi ed, a DRO must clearly specify:
• The name and last known mailing address of the participant and alternate payee,
• The amount or percentage of retirement funds to be paid or how the amount is to be
determined,
• The number of payments or the period to which the order applies, and
• The name of each retirement plan to which the order applies.
An order is not qualifi ed if it:
• Requires any type or form of benefi t, or any option, that is not provided for in the
retirement plan,
• Provides increased benefi ts (determined based on actuarial value), or
• Requires the payment of retirement funds to the alternate payee that are payable to
another alternate payee under another QDRO.
How are the retirement funds split?
There are two approaches that are commonly used to divide the retirement funds held for
the benefi t of a participant when drafting a QDRO. Under the “shared payment” approach,
each benefi t payment is split between the alternate payee and participant. Payments begin
for the alternate payee when payments begin for the participant and are made in the same
form. This approach is often selected when the participant is already receiving benefi t
payments. It is very important for this type of QDRO to specify when the payments begin
and end for the alternate payee. If the alternate payee dies, his or her share may revert to
the participant.
Under the “separate interest” approach, the retirement funds held for the benefi t of the
participant is split into two separate portions. Depending on how the QDRO is written, the
alternate payee can determine when payments begin and the form to which payments are
received. In addition, this type of QDRO can provide that the death of the participant does
not affect the payment of benefi ts to the alternate payee. If the alternate payee dies, his or
her retirement funds may be paid to his or her estate or a designated benefi ciary.
4
When determining how to split the retirement funds held for the benefi t of the participant,
a QDRO drafter will consider the type of retirement plan involved.
A defi ned benefi t (DB) plan promises to provide a specifi c benefi t at retirement, based on a
specifi c formula defi ned in the plan. The formula may take into account a participant’s years
of service and salary. Generally, the benefi t is paid as an annuity, which begins when the
participant reaches normal retirement age.
A defi ned contribution (DC) plan provides an individual account for each participant. The
participant’s account consists of the amounts contributed to the plan, income, expenses, and
gains or losses, as well as any forfeitures allocated to him or her. The retirement funds held for
the benefi t of the participant at any given time represents his or her retirement benefi t.
Generally, the benefi t is paid as a lump sum, but many plans also include annuities as an
optional form of distribution.
The shared payment and separate interest approach can be used
for both DB plans and DC plans. However, any QDRO drafted should
follow and comply with the terms of the plan.
When can an alternate payee receive a distribution?
Some plans are written to allow payments to the alternate payee immediately after the order
is determined to be qualifi ed. If the plan does not provide for immediate payments, the QDRO
could allow payments to the alternate payee when the participant reaches “earliest retirement
age” as defi ned in ERISA and the Internal Revenue Code.
Earliest retirement age is the earlier of:
1) The date the participant is entitled to a distribution under the plan, or
2) The later of: A) the date the participant reaches age 50, or B) the earliest date the
participant could begin receiving benefi ts under the plan if he or she separated
from service.
Note: The QDRO should specifi cally indicate whether a distribution is allowed at earliest retirement age.
Example OneAssume a 401(k) plan allows a participant to take a withdrawal upon reaching
age 59½ or after terminating service with the employer.
Earliest retirement age is the earlier of: 1) The date the participant reaches age 59½
or terminates employment, or 2) Age 50.
For this plan, the earliest retirement age is the date the participant reaches age 50
or the date the participant actually terminates service — whichever occurs fi rst.
5
How are the retirement funds taxed when received by the alternate payee?
Distributions to an alternate payee who is a spouse or former spouse are taxable and included
in the alternate payee’s income the year the benefi t payment is received. An alternate payee
may elect a rollover to an IRA or another qualifi ed retirement plan. If the payment is received
as a lump sum, 20 percent will automatically be withheld. The 10 percent additional income
tax on early distribution does not apply to QDRO distributions to the alternate payee.
Distributions to an alternate payee who is a child or other dependent of the participant are
taxable to the participant and included in his or her income the year the benefi t payment is
received. A child or other dependent of the participant may not elect a rollover. Since the
payment is not eligible for rollover, 10 percent will be withheld from the lump-sum payment
unless the participant elects otherwise on Form W-4P (Withholding Certifi cate for Pension or
Annuity Payments). The 10 percent additional income tax on early distribution does not apply
to QDRO distributions.
If the alternate payee is receiving periodic payments (distributions of an annuity or similar
periodic payment), amounts are withheld as if the payment were a payment of wages. The
amount of tax to be withheld is determined in accordance with the payee’s withholding
certifi cate (Form W-4P). If the alternate payee fails to submit Form W-4P, the amount withheld
is determined as if he or she was a married person claiming three withholding exemptions.
Example TwoAssume a retirement plan allows a participant to receive retirement benefi ts when
the participant reaches age 65 and terminates service with the employer.
Earliest retirement age is the earlier of: 1) The date the participant reaches age 65 and
terminates employment, or 2) Age 65.
For this plan, the earliest retirement age is the date the participant reaches age 65.
6
Developing Administrative Procedures
As previously mentioned, Plan Administrators are required to have procedures in place for
determining the qualifi ed status of domestic relations orders and for making QDRO distributions
to the alternate payee. The procedures should be designed to ensure QDRO determinations
are made in a timely, effi cient, and cost-effective manner.
To assist you in developing administrative procedures for your plan, we have developed some
sample procedures to use as a guide. However, the terms of your plan should be considered
when drafting your procedures.
Prior to fi nalizing the procedures, we encourage you to work with your legal counsel to review
and approve them. Once your administrative procedures have been fi nalized, please send
Principal Life Insurance Company a copy so QDROs received for your plan can be handled
accordingly.
Reference Sample A for sample procedures.
Additional Items to Consider
The sample procedures provided are not intended to represent all the administrative issues that
should be addressed in your plan’s QDRO administrative procedures.
Your procedures should relate specifi cally to your retirement plan
and address all administrative concerns you identify.
We have included a few items that you, as a Plan Administrator, may want to address in your
plan’s QDRO procedures. Many of these issues may require you to give us written direction so
the QDRO is handled accurately. We encourage you to seek guidance from your legal counsel
prior to fi nalizing your plan’s procedures.
Benefi ciary Designation
A QDRO using the separate interest approach generally allows an alternate payee to name a
benefi ciary to receive the amount awarded to him or her by the QDRO, should he or she
die before receiving the benefi t. If the alternate payee dies and is receiving a portion of each
benefi t payment, his or her share of the payments may revert to the participant.
Administrative Procedures
7
Since the regulations do not specifi cally address whether an alternate payee can name a
benefi ciary, it is best if the QDRO indicates how to handle distributions should the alternate
payee die prior to receiving his or her benefi t. It is a very good idea for the QDRO administrative
procedures to indicate the circumstances when an alternate payee can name a benefi ciary.
In addition, you may wish to provide a divorced participant with a new benefi ciary form to
update his or her current benefi ciary designation once you’ve determined the DRO received is
qualifi ed. The participant should consult his or her legal counsel prior to making any changes
to the benefi ciary designation.
Distributions
The procedures should indicate whether the plan allows an alternate payee to receive an
immediate distribution or not. If a plan does not allow immediate distribution, the alternate
payee cannot receive a distribution until the participant reaches a benefi t event or earliest
retirement age as defi ned by law. Benefi t events are death, disability, termination of
employment, or retirement. The standard and non-standard prototype documents
provided by The Principal allow the alternate payee to take an immediate distribution.
Hardship Withdrawals
If a plan allows participants to take hardship withdrawals, an alternate payee may inquire
whether he or she is eligible to receive a hardship withdrawal. Some plans may not be
written to specifi cally allow hardship distributions to alternate payees. If the plan is not clear
on this issue, you must determine whether an alternate payee meeting the plan’s guidelines
for fi nancial hardship may receive a hardship withdrawal.
The standard and non-standard prototype retirement plan documents provided by
The Principal do not specifi cally allow hardship withdrawals to alternate payees. However,
a Plan Administrator could allow an alternate payee meeting the fi nancial hardship
requirements to receive a hardship withdrawal. The alternate payee is subject to the same
limitations as plan participants regarding the amounts that can be withdrawn. The
standard and non-standard prototype documents provided by The Principal allow the
alternate payee to take an immediate distribution. Therefore, it’s unlikely an alternate
payee would request a hardship withdrawal.
8
Investment Direction
If a plan allows investment direction for participants, you must provide an explanation of
how and when the segregated account held for the benefi t of an alternate payee can be
directed by the alternate payee.
An alternate payee generally does not receive investment control when the QDRO award
uses the shared payment approach, like a purchased annuity.
Life Insurance
If the plan allows life insurance, a common issue is whether the cash value of the life insurance
will be part of the alternate payee’s award amount. Administratively, it is easier to not include
life insurance cash values as part of the alternate payee’s award amount. It is best if the QDRO
indicates how to handle the life insurance policy. The administrative procedures should detail
how this will be handled in case the QDRO does not provide guidance.
The participant may need to change the benefi ciary on his or her life insurance policy
after a divorce occurs. Again, the participant should consult his or her legal counsel prior
to making any changes to the benefi ciary designation.
Loans
When a plan allows loans, a common issue is whether existing loan balances on the account
the plan holds for the participant will be included in the alternate payee’s award amount. It
is easier — administratively — for the loan to remain the sole obligation of the participant,
but the loan balance is taken into account when separating an account between the
participant and alternate payee.
If the plan allows participants to take loans, an alternate payee may inquire whether he or she
is eligible to receive a loan according to the plan’s provisions. The procedures could detail the
circumstances when an alternate payee may receive a loan and how the loan is to be repaid.
Our standard and non-standard prototype documents do not allow an alternate payee to take
a loan unless the alternate payee is a participant as defi ned in the plan.
9
Segregation of Retirement Funds
While the determination of the qualifi ed status of the DRO is pending, both the Internal
Revenue Code and ERISA require the Plan Administrator to separately account for the amounts
that would be payable to an alternate payee for a period of 18 months. Since this is a legal
requirement, most administrative procedures will address this issue.
When a DRO is received, please be sure to notify your contact for the retirement plan in
writing and send them a copy of the order. This notifi cation should also instruct us to place
a hold on the participant’s account balance pending separation for the alternate payee’s
award amount.
Survivor Rights
Since federal law requires all retirement plans to provide survivor benefi ts to the participant’s
spouse, a former spouse may inquire whether they retained survivorship benefi ts under the plan.
If the divorce occurs prior to the annuity starting date, the former spouse loses all survivor
benefi ts. If the divorced participant remarries, his or her new spouse could be entitled to
receive the survivor benefi ts. However, a QDRO can be written to allow the former spouse
to receive all or a portion of the survivor benefi ts.
The QDRO must state that the former spouse is still named as the surviving spouse to
receive all or a portion of the survivor benefi ts payable at the death of the participant.
Vesting
When a participant is only partially vested in his or her retirement benefi t, it is possible for
the QDRO to assign to an alternate payee a portion of the participant’s non-vested accrued
benefi t or account balance. Since it is diffi cult to monitor when the alternate payee is entitled
to the non-vested amounts, QDROs that award only the vested account balance are much
easier to administer.
Assuming the plan and QDRO allow for immediate distribution, an alternate payee can only
receive a payment of the participant’s vested amount from the retirement plan. Once the
participant becomes vested in the non-vested portion of the accrued benefi t or account
balance, an alternate payee may receive a payment of the remaining amount assigned to
him or her by the QDRO.
10
In a DC plan, a QDRO may award either a certain dollar amount or a percentage of the
participant’s “vested account balance” or “account balance” to an alternate payee. The
particular wording chosen will impact the actual benefi t received. The administrative
procedures should ensure the alternate payee does not receive a distribution from the
retirement plan of any non-vested amounts until the participant earns a right to the benefi t.
For clarifi cation purposes, please review the following examples.
Example OneThe QDRO awards 60 percent of the participant’s “vested” account balance to
the alternate payee. The participant’s account balance is $5,000. The vested
portion is $3,000.
The alternate payee will receive $1,800.
Example TwoThe QDRO awards 80 percent of the participant’s account balance to the alternate
payee. The participant’s account balance is $5,000. The vested portion is $3,000.
The award amount is $4,000. Assuming the plan and QDRO allow for immediate
distribution, an alternate payee could receive $3,000. The remaining $1,000 could
not be distributed until the participant becomes vested in the $1,000.
In a DC plan, a QDRO may award either a certain dollar amount
or a percentage of the “vested account balance” or “account balance”
held for the benefi t of the participant to an alternate payee.
11
Alternate payee: A spouse, former spouse, child or other dependent of a participant.
Domestic relations order (DRO): A signed or stamped judgment, decree, or order (including
approval of a property settlement agreement) made pursuant to state domestic relations law
(including community property law) relating to child support, alimony payments, or marital
property rights to a spouse, former spouse, child, or other dependent of a participant.
ERISA: The Employee Retirement Income Security Act of 1974, as amended.
Good working order (GWO): The point in time that Principal Life Insurance Company has
all the necessary information to process the DRO.
Participant: The person who is entitled to benefi ts under the plan.
Plan administrator: The person designated by the terms of the retirement plan. If no one is
designated, the plan sponsor is the Plan Administrator. Principal Life Insurance Company
cannot be appointed as the Plan Administrator.
Plan fi duciary: The person(s) with discretionary control over the management of the plan
or disposition of a plan’s assets.
Plan name: The name of the group or employer who is identifi ed in the plan document
under which the plan is established and maintained. The plan should not refer to
Principal Life Insurance Company.
Plan sponsor: The entity that starts and/or maintains a retirement plan.
Proposed domestic relations order: The preliminary judgment, decree or order (including
preliminary property settlement agreement) made pursuant to state domestic relations law
(including community property law) relating to child support, alimony payments, or marital
property rights to a spouse, former spouse, child, or other dependent of a participant.
Qualifi ed domestic relations order (QDRO): A domestic relations order that creates or
recognizes an alternate payee’s right to receive all or a portion of the benefi ts payable to a
participant under a qualifi ed retirement plan.
Segregation period: The 18-month period in which the plan sponsor is allowed to make
the determination if the DRO is qualifi ed or not. Unless the DRO specifi cally states a date,
the period starts with the date the plan sponsor actually receives the DRO to review. During
the following 18 months, the plan sponsor must make the determination if the DRO is
going to be qualifi ed.
QDRO Defi nitions
WE’LL GIVE YOU AN EDGE®
Principal Life Insurance Company, Des Moines, Iowa 50392-0001, www.principal.com
PQ 5998-4 | 01/2009 | © 2009 Principal Financial Services, Inc. | #433012010
While this communication may be used to promote or market a transaction or an idea that is discussed in the publication, it is intended to provide general information about the subject matter covered and is provided with the understanding that The Principal is not rendering legal, accounting, or tax advice.
It is not a marketed opinion and may not be used to avoid penalties under the Internal Revenue Code. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, or accounting obligations and requirements.
Insurance products and plan administrative services are provided by Principal Life Insurance Company, a member of the Principal Financial Group, Des Moines, IA 50392.
