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QDRO -- spouse wants life insurance


Guest Sue Lusk

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Guest Sue Lusk

Facts: Profit Sharing Plan - included in participant's account balance are funds that were rolled over from the employer's former DB plan. Life insurance policies were also transferred to the PS plan as a part of the terminated DB plan assets.

A DRO is forthcoming in which the spouse is requesting 50% of the account balance of the participant. The spouse is requesting the life insurance policies in force issued on the life of the participant be a part of her 50% account balance. Spouse wants insurance kept in force on life of participant; spouse is beneficiary--or has right to designate any one she wants as beneficiary. The cash value will be considered as part of the spouse's 50% balance.

The plan document does not allow for distributions for QDROs. Distributions permitted are for death, disability, termination, retirement. Participant is not age 50.

Question-if future premiums are debited from spouse's account balance, is there an incidental death benefits problem? Is all of spouse's account balance considered available to apply the 50% test? Does spouse report future P.S. 58 costs? Does participant have available any means to recover previously reported P.S. 58 costs?

Any other problems we haven't considered? Thanks.

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  • 2 months later...
Guest PeterGulia

What is the federal income tax treatment of life insurance protection held by an alternate payee?

If a spouse or former spouse obtains rights as an alternate payee under a QDRO, that alternate payee "shall be treated as the distributee of any distribution or payment made to the alternate payee under [the] qualified domestic relations order[.]" IRC § 402(e)(1)(A). Because this provision is not limited to a payment and includes "any distribution", it should be construed literally to refer to any distribution, including a deemed distribution, as long as it is made under the QDRO. Since the court order awards the alternate payee the right to have life insurance protection, and the right to designate the beneficiary (including the alternate payee) for any proceeds, the deemed distribution arising from those rights is made under the court order. Further, the general income tax principle that income follows a person's property or rights suggests that an alternate payee - if he or she has the right to designate a beneficiary for his or her portion of the life insurance death benefit - should be treated as the distributee of the deemed distribution that arises from the life insurance protection.

In the situation you described (and assuming that the plan administrator determines that the DRO is a QDRO), the plan administrator should each year file two Form 1099-Rs for the yearly renewable term cost of the life insurance protection. That is, the plan administrator would report that the alternate payee has received a deemed distribution to the extent of the portion of the death benefit for which the alternate payee is the beneficiary or has the right to designate the beneficiary. Because it is unclear whether the "net amount at risk" measurement of life insurance protection refers to the insurer's risk or the insured's benefit, there are at least two alternative methods of figuring each individual's deemed distribution. To the best of my research, there is no published authority. And since whatever is not reported as the alternate payee's deemed distribution should be reported as the participant's deemed distribution, there may be little risk in a good faith reporting position.

As for the 50% incidental test, nothing in a QDRO can change the terms of the plan. The rule should apply on the whole of the participant's account, including the alternate payee "subaccount".

The plan administrator should not "debit" the alternate payee's account for life insurance premiums unless the QDRO expressly so provides.

Because of the tax cost, an alternate payee who has a choice should negotiate for a division that does not include a death benefit unless the alternate payee has an economic need for protection in the event of the participant's death. However, life insurance may be useful if the participant's alimony, child support, and other obligations to the alternate payee continue for a period of years and do not end upon the participant's death.

Last, while none of us ever talks with the parties, consider whether you should avoid discussing this even with the parties' lawyers. The potential for someone to be disappointed or disadvantaged and then "remember" that you gave advice may be too much risk.

And that said, now's a good time to remind you and all readers that none of this is advice to you or anyone else.

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I have no comment on Mr. Gulia's response except that if any plan administrator dares to disregard his last comment and tries to help the parties get what they "intended" by discussing (with their lawywers or otherwise)how to draft an order, read Dahlgren v. U.S. West Direct, 12 EBC 2275(D Or 1990). The decision may be wrong, but that was no consolation to the plan administrator.

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  • 22 years later...

The case QDROphile mentions—Templeman v. Dahlgren, Civil No. 89-667-FR, 12 Employee Benefits Cases (BL) 2275 (D. Or. July 31, 1990)—now is over 30 years old.

The Federal court decided only that ERISA did not preempt the divorce lawyer’s State-law claim against an employer/administrator.  (Considering the facts described in Judge Frye’s opinion with some we might infer, the decision might have been incorrect.)  The court remanded a removed-to-Federal action to the State court that claim came from.

Many of us read the case as impliedly recognizing at least some possibility to pursue a State-law claim (for example, the tort of negligent communication) against a nonlawyer who gave legal advice to a lawyer.  An element of that tort is that the relying person’s reliance on the communication must be reasonable.  The Federal court’s opinion does not even mention that it might be unreasonable for a lawyer to rely on a nonlawyer’s legal advice.

BenefitsLink friends, have you seen a case in which a divorce lawyer sued a retirement plan’s administrator, third-party administrator, recordkeeper, or other service provider for (allegedly) giving incorrect or incomplete advice about how to prepare a domestic-relations order?

Peter Gulia PC

Fiduciary Guidance Counsel

Philadelphia, Pennsylvania

215-732-1552

Peter@FiduciaryGuidanceCounsel.com

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