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If an asset in the divorce that is to be divided is an IRA of the husband, does the spouse avoid the 10% early distribution penalty if the amount is paid directly to her from the husband's IRA?

If instead it is routed through an IRA in the spouse's name, does the 10% penalty then apply when she takes the withdrawal from her own IRA?

She is under age 59 1/2 years.

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If an asset in the divorce that is to be divided is an IRA of the husband, does the spouse avoid the 10% early distribution penalty if the amount is paid directly to her from the husband's IRA?

If instead it is routed through an IRA in the spouse's name, does the 10% penalty then apply when she takes the withdrawal from her own IRA?

She is under age 59 1/2 years.

The spouse avoids the 10% penalty if she effectively rolls over the distribution into a tax deferred account such as an IRA. It does not have to be routed directly to the IRA as long as it is deposited there within a certain number of days (you need to check and see how days it is. Might be 60 or 180). The penalty will always apply to a distribution regardless of the account, as long as the spouse is under 59 1/2. However, the plans procedures may require it to withhold a the 10% even if there will be no penalty and you would be forced to deposit the balance plus whatever was withheld to avoid the penalty. Since you cannot predict what the plan will do absolutely the safest and cleanest course is a direct roll over and then take a distribution if necessary (thus incurring a 10% penalty). It is important to plan carefully when considering a distribution because not only is there a penalty for being under 59 1/2, there is also the tax implications of the distribution which is now income because it was not previously taxed. So the penality is not the only tax to consider.

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As Qdrophile points out, this is a common error, and frankly, very easy to make. I've frequently had people argue that QDRO payments from a IRA to an alternate payee are not subject to the penalty tax, and they cite 72(t)(2)©. Which is pretty black and white that it does not apply, if that's as far as you go. But then as Qdrophile pointed out, if you then go on to the (3)(A) - oops! A trap for the unwary.

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If an asset in the divorce that is to be divided is an IRA of the husband, does the spouse avoid the 10% early distribution penalty if the amount is paid directly to her from the husband's IRA?

If instead it is routed through an IRA in the spouse's name, does the 10% penalty then apply when she takes the withdrawal from her own IRA?

She is under age 59 1/2 years.

I dont know what the other posters were referring to in their comments but pursuant to a divorce decree or separation agreement some or all of H's IRA account can be transferred by H's custodian to the custodian of W's IRA without incurring any tax or penalty. See Pub 590 P 28. After the funds are transferred to W's IRA she will be subject to the 10% penalty tax on premature withdrawals. The transfer is effectuated by inserting a provision in the divorce decree or property settlement agreement ordering the transfer of X dollars/% from X's IRA to an IRA established by W. H's custodian must be notified by sending the divorce decree to his custodian along with instructions of how to transfer the funds to W's IRA.

If H pays W the amount ordered by the divorce decree/property settlement directly to W from his IRA H will be taxed on the transfer and will be subject to the 10% penalty tax. There is no rollover option for IRAs which allows H to write a check from his IRA to W's IRA which W can deposit in her IRA without H being assessed tax on account of a distribution.

Transfers to an ex spouse from an IRA are not subject to the QDRO requirements. Distributions of plan benefits to an ex spouse under a QDRO can be rolled over to her IRA. See IRS pub 590 P 27.

mjb

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Mbozek - I'm a little confused - I think we are agreeing. What I took Qdrophile's response to mean, and with which I agree, is that if (a) you have a settlement that is to be paid directly to the ex-spouse, and not to an IRA on her behalf (the original post stated it was to be paid directly to her) and (b) that settlement is a result of a divorce, presumably a divorce decree, then I think the income tax and applicable penalty tax is payable by the recipient. I don't disagree with your assertion that it can be split into another IRA, but I took the "paid directly to her" to mean that she would receive a cash distribution.

Do you agree, or do you think this is incorrect? Thanks.

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Mbozek - I'm a little confused - I think we are agreeing. What I took Qdrophile's response to mean, and with which I agree, is that if (a) you have a settlement that is to be paid directly to the ex-spouse, and not to an IRA on her behalf (the original post stated it was to be paid directly to her) and (b) that settlement is a result of a divorce, presumably a divorce decree, then I think the income tax and applicable penalty tax is payable by the recipient. I don't disagree with your assertion that it can be split into another IRA, but I took the "paid directly to her" to mean that she would receive a cash distribution.

Do you agree, or do you think this is incorrect? Thanks.

I think the OP gave two different possibities:

1. where the the IRA owner paid the ex spouse an amount in cash directly from the IRA, i.e. she received a distribution paid in her name from H's IRA account. According to the IRS the tax is paid the by IRA owner because it does not come within the exception cited in Pub 590. PLR 9422060 and 8820086.

2. where the funds were routed through the IRA in the ex spouse's name. I assumed that in # 2 he meant that the IRA funds were transferred to the ex spouse from the custodian of H's IRA to the custodian of the Ex's IRA in tax free transfer as permitted in Pub 590, P28. (H could also elect to have his IRA retitled in his ex spouse's name). If H's IRA funds are routed the ex spouse in another manner such as by giving her a check drawn from his IRA payable to her IRA H will have made a taxable distribution.

mjb

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Mbozek - I'm still confused. Maybe I'm missing something, but I don't see how your cited PLR's apply to my question. I specified that the funds were paid directly to the ex-spouse, under the terms of a divorce decree. I totally agree that if they are just paid to the ex and NOT under the terms of a divorce decree, then the distribution is taxable to the IRA owner. But the PLR's were ruling on a situation where funds were transferred to a spouses IRA and were NOT under a divorce decree.

Do you have other citations? Otherwise it still seems that if the divorce decree specifies that the IRA owner is to pay the ex a certain sum from the IRA, and the ex elects to receive it directly and not as a rollover/transfer, then it should be taxable to the recipient, and not to the IRA owner. Thanks!

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mbozek and belgarath - I'm declaring a cease fire between you. You're both on the same page and just not seeing it because you're on slightly different angles from the topic.

Going back to the Original Post, it asks two scenarios: a) if the money is paid from P's IRA directly to S and b) if the money is transferred to S's IRA and then paid to S. The end result is that either final payment to S is taxable. mbozek expands that the transfer from P's IRA to S's IRA is non taxable.

We can also verify this by looking at the instructions for Form 5329 which state in the list of reason codes for line 2: "06 Qualified retirement plan distributions made to an alternate payee under a qualified domestic relations order (does not apply to IRAs)." Thus further confirming that exception to 10% penalty on distributions resulting from divorce orders do not apply to IRAs.

Kurt Vonnegut: 'To be is to do'-Socrates 'To do is to be'-Jean-Paul Sartre 'Do be do be do'-Frank Sinatra

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Masteff, thanks for your reply - I assume the "cease fire" is tongue in cheek, as there's certainly no rancor here - just professional discourse.

The reason I'm trying to be so precise is this: I've found that Mbozek is usually right and I value his comments, so if he's disagreeing with me, I take that very seriously, and want to "drill down" to the core of the discussion to make sure that, as you say, we are on the same page. And the following makes me think that we aren't, so if I'm wrong, I just want to understand why.

"1. where the the IRA owner paid the ex spouse an amount in cash directly from the IRA, i.e. she received a distribution paid in her name from H's IRA account. According to the IRS the tax is paid the by IRA owner because it does not come within the exception cited in Pub 590. PLR 9422060 and 8820086."

So MB, if my wife and I get divorced, and the decree says I must pay her $10,000 from my IRA, and the divorce decree doesn't specify that this will be accomplished via a trustee to trustee transfer to an IRA in her name and she just wants the cash - if paid directly to her as specified in the divorce decree, am I going to get taxed, or is she? And if you believe that I'm the one who will be taxed in this situation, do you still think those PLR citations are the appropriate citations, or are there others that you are aware of? (and FWIW, I agree with everything else you have said - it's just that this specific question has me bamboozled.) Many thanks!!

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Masteff, thanks for your reply - I assume the "cease fire" is tongue in cheek, as there's certainly no rancor here - just professional discourse.

The reason I'm trying to be so precise is this: I've found that Mbozek is usually right and I value his comments, so if he's disagreeing with me, I take that very seriously, and want to "drill down" to the core of the discussion to make sure that, as you say, we are on the same page. And the following makes me think that we aren't, so if I'm wrong, I just want to understand why.

"1. where the the IRA owner paid the ex spouse an amount in cash directly from the IRA, i.e. she received a distribution paid in her name from H's IRA account. According to the IRS the tax is paid the by IRA owner because it does not come within the exception cited in Pub 590. PLR 9422060 and 8820086."

So MB, if my wife and I get divorced, and the decree says I must pay her $10,000 from my IRA, and the divorce decree doesn't specify that this will be accomplished via a trustee to trustee transfer to an IRA in her name and she just wants the cash - if paid directly to her as specified in the divorce decree, am I going to get taxed, or is she? And if you believe that I'm the one who will be taxed in this situation, do you still think those PLR citations are the appropriate citations, or are there others that you are aware of? (and FWIW, I agree with everything else you have said - it's just that this specific question has me bamboozled.) Many thanks!!

The only way to transfer IRA assets to an ex spouse under a divorce decree or separation agreement which does not result in taxation to the IRA owner under the assignment of interest rule (which applies to all other IRA distributions to another party) is to follow the procedures to effectuate a trustee to trustee transfer of IRA funds from the owners IRA to an IRA of the ex spouse as stated on P. 28 of Pub 590. Any other transfers from the owner IRA to the ex will result in taxation of the IRA owner. In Jones v. IRS,TC memo 2000-219 an IRA owner who received a distribution from his IRA and endorsed the check to his spouse was taxed on the distribution because he failed to satisfy the requirement for a non taxable transfer under IRC 408(d)(6).

My question is why would an IRA owner take a risk of taxation by transferring an interest in his IRA to his ex spouse outside of the clear path to a non taxable transfer stated in IRS pub 590.

mjb

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