Divorce brings a range of financial uncertainties, particularly for federal employees faced with the complications of dividing their retirement savings. The Federal Employees Retirement System (FERS), Thrift Savings Plan (TSP), and Social Security are all potentially impacted when untangling marital assets. Understanding the implications early in the process can help you protect your financial interests.
Key Federal Retirement Assets Affected by Divorce
When discussing federal retirement and divorce, it’s critical to grasp the potential division of each pillar of your plan. These are three of the most common.
FERS Pension
An FERS divorce settlement typically requires a Court Order Acceptable for Processing (COAP). The COAP outlines exactly how the pension is split, usually either as a percentage of the monthly benefit or a fixed dollar amount. The division can take effect when the federal employee retires, and payments to the ex-spouse are made directly by the Office of Personnel Management (OPM).
Thrift Savings Plan
A court order, known as a Retirement Benefits Court Order (RBCO) is required to allocate a portion of the TSP to the ex-spouse. It will specify the exact amount or percentage. The ex-spouse can choose to withdraw the funds or roll the assets into their own IRA or retirement plan to avoid potential taxes and penalties.
One note about TSP assets: be mindful of the tax profile of these assets—Roth and Traditional TSP are not equal. Traditional TSP contributions have not been taxed in advance, and are thus taxable upon distribution in retirement, whereas Roth TSP contributions have already been taxed and both the principal and growth portion of a Roth TSP are tax-free in retirement. Understand that if you are splitting a Traditional TSP, you’ll need to factor in the tax drag on these assets to understand the net, after-tax value of these assets. This is particularly important when the value of the TSP is being compared to the value of other after-tax assets, like the value of a primary home or a joint brokerage or bank account.
Social Security Benefits
If a marriage lasted 10 years or longer, an ex-spouse may be eligible to receive Social Security benefits based on the federal employee's record, even after the divorce. This occurs only if the amount is higher than the amount they're entitled to under their own earnings record, and it does not affect the amount of benefits the federal employee will receive.
Court Orders and Divorce Settlements
A COAP specifically outlines how FERS benefits are split in a divorce. It ensures that the retirement benefits are correctly divided and legally transferred between the federal employee and their former spouse, according to the terms of the divorce decree.
A properly executed COAP must clearly state all details, including how benefits are divided and when the division starts, and follow federal guidelines. Working with an experienced attorney familiar with the federal retirement system can help you avoid common mistakes, such as misinterpreting the formula for dividing benefits or failing to account for future benefit adjustments.
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Divorce and Survivor Benefits
If the COAP grants the former spouse survivor benefits, this ensures they will continue to receive a portion of the federal employee's pension after the employee’s death. Once the COAP is in place, the survivor benefits cannot be changed by altering the beneficiary designation.
It's important to make sure survivor benefits are properly addressed in the divorce agreement. If the COAP does not explicitly grant the former spouse these benefits, the federal employee can designate someone else to receive them. This can be particularly problematic if one spouse has given up working to raise children or support the household, as the lack of benefit could jeopardize their financial security.
If the former spouse remarries before age 55, they are generally disqualified from receiving survivor benefits, unless the divorce decree states otherwise.
The Role of the Thrift Savings Plan (TSP) in Divorce
Once the RBCO is processed, the TSP remains tax-deferred, as long as the ex-spouse rolls over their portion into an IRA or other qualified plan. However, if the funds are withdrawn directly, they may be subject to taxes. Early withdrawal penalties may also apply if they are under the age of 59½.
Taxation depends on the type of TSP assets. Deposits into a Traditional TSP are made on a pre-tax basis. The assets are taxed upon withdrawal, meaning the recipient owes taxes on the amount received. In contrast, deposits to a Roth TSP are made after the assets have been taxed. Withdrawals are made tax-free, as long as the account holder meets certain requirements.
Again, dividing pre-tax TSP assets may not be equal to dividing Roth TSP assets due to the differing tax implications. Receiving half of a pre-tax TSP is also not the same as receiving half of a tax-free asset, or even an asset subject to long-term capital gains taxes, which are typically much lower than income taxes.
Health Benefits and Divorce
After the divorce is finalized, a former spouse is no longer eligible to remain covered under the Federal Employees Health Benefits (FEHB) program. However, the former spouse may be eligible for Temporary Continuation of Coverage (TCC), which allows them to continue receiving health insurance for up to 36 months.
Under TCC, the former spouse is required to pay the full premium, including both the employee and government portions, as well as a 2% administrative fee. While this may seem expensive, it offers time to arrange for other long-term health insurance options.
Former spouses can benefit from evaluating other health insurance options, such as a new employer plan or coverage through the Health Insurance Marketplace. Taking steps early to secure health coverage may prevent gaps and unexpected costs after TCC expires.
Financial Considerations for Federal Workers Going Through Divorce
One of the best ways to protect your retirement savings during a divorce is by understanding the full value of your assets before you head to the negotiating table to work out a fair settlement.
Working with a CERTIFIED FINANCIAL PLANNER™ practitioner who understands federal benefits is key to properly valuing your assets and ensuring fair division. For personalized advice, reach out to the team at Serving Those Who Serve at [email protected].
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Ed Zurndorfer, EA, ATA, CFP®, CLU®, ChFC®, CEBS®, ChFEBC℠: Federal Employee Benefits Expert
A former career Federal employee, Ed has published a staggering 1,200+ separate articles on Federal Benefits and Retirement!
Just “Google” his name, and you are likely to find a plethora of sites that contain his writings. Drawn to its mission to reach, teach
and serve Feds, Serving Those Who Serve is the only financial planning practice with which Ed has chosen to affiliate in over
20 years teaching. In addition to conducting Federal Benefits seminars for Serving Those Who Serve, you can find Ed’s
writings here on our blog in the FedZone, and on Fed-Soup, MyFederalRetirement, FederalNews Radio and NITP.
He is a member of the Maryland Society of Accountants, the National Association of Enrolled Agents, the International Society of Certified Employee Benefits Specialists, the Financial Planning Association, the National Association of Health Underwriters,
and the Society of Financial Service Professionals. Since 1999, Ed has taught many thousands of Federal employees about
their benefits, in person and at Federal agencies all over the country. Ed is a true national treasure.
Edward A. Zurndorfer is a CERTIFIED FINANCIAL PLANNER™ professional, Chartered Life Underwriter, Chartered Financial Consultant, Chartered Federal Employee Benefits Consultant, Certified Employees Benefits Specialist and IRS Enrolled Agent in Silver Spring, MD. Tax planning, Federal employee benefits, retirement and insurance consulting services offered through EZ Accounting and Financial Services, and EZ Federal Benefits Seminars, located at 833 Bromley Street - Suite A, Silver Spring, MD 20902-3019 and telephone number 301-681-1652. Raymond James is not affiliated with and does not endorse the opinions or services of Edward A. Zurndorfer or EZ Accounting and Financial Services. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. While we are familiar with the tax provisions of the issues presented herein, as Financial Advisors of RJFS, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional.