Dividing Assets in a Down Market
Often I am asked what impact fluctuations in the stock market will have on the ultimate division of assets in a divorce. This is an important question when you consider that typically a divorce will not necessarily become final on the day you reach your agreement. A divorce is not “final” until the Decree is executed by the Judge who has jurisdiction over your case. A divorce decree in a complicated case may take weeks or months to finalize and obtain a judge’s signature if the parties disagree on the actual terms of the decree that is presented to the court. To further complicate matters, assets are typically considered community property until divided by the court. Therefore the value of an asset on the day you settle may be significantly different from the value on the day the asset is actually divided. More importantly, once you are divorced, your spouse may not have a fiduciary duty to preserve your investment through sound financial decisions made prior to actual division of the account.
If your agreement provides for a division of an asset classification on a percentage basis, both parties will share equally in any gain or loss attributed to that asset up to the day the court divides the estate. If your order provides for a division based on a value on a specific date, you may run the risk of assuming any losses if the value decreases after that date and the decree awards a specific sum of money out of that asset classification.
If you are dividing stock accounts, or money market accounts, upon divorce you should obtain necessary transfer documents from the brokerage firm to effectuate the transfer. If assets are being transferred from a spouse’s account to your account, this will only be done after you open an account to accept the transfer of the assets. The transfer of stocks or mutual fund shares into your account is a tax free transfer under the internal revenue code. If, however, you liquidate the stock or mutual fund and transfer cash, the primary holder of the account will be taxed on the liquidation if any gain is realized. If a loss occurs, the loss will be credited to the primary holder of the account. If you are going to have to liquidate in order to divide the asset you may want to consider the net tax consequence in determining value of the asset so that the tax impact is shared.
In the case of a division of a 401k plan or retirement plan the vehicle for the division will be a Qualified Domestic Relations Order. The Qualified Domestic Relations Order instructs the employer how to calculate the portion awarded to the nonemployee spouse. A Qualified Domestic Relations Order has to be approved by the employer prior to execution by the Judge, otherwise the order signed by the judge may be ineffective and the assets may not be transferred at the time you request. The failure to get a 401k Qualified Domestic Relations Order approved could result in an inability to manage your assets at a critical time in the market.
In summary, in order to best protect assets during a divorce in a volatile market, you should:
- provide for divisions that will allocate risk of loss or potential gain to both parties.
- obtain preapproved qualified domestic relations orders to ensure a timely transfer of assets.
- Establish accounts with reputable money managers or brokerage firms to accept transferred assets from your spouse’s accounts.
- transfer assets without liquidation to avoid tax impact if you are the transferring spouse. If this cannot be done, divide the asset based on net value after tax in order to share the tax impact between the parties.
- do not rely on your ex spouse to make financial management decisions on assets that have been partitioned after divorce but have not been transferred due to the fact that his or her fiduciary obligation to you may be limited.