QDRO Financial Analysis & Plan Evaluation 3 — Questions and Answers
Question 1: When evaluating an employee stock ownership plan (ESOP) for QDRO purposes, which unique valuation challenge must the QDRO practitioner address?
- ESOPs are exempt from QDRO requirements entirely
- Employer stock in an ESOP may be privately held and require an independent appraisal (Correct answer)
- ESOP accounts are always valued at book value
- ESOPs must be divided using the separate interest method only
Correct answer: Employer stock in an ESOP may be privately held and require an independent appraisal
Closely held company stock in an ESOP lacks a public market price, so an independent business appraisal is required to determine fair market value for division purposes.
Question 2: A participant's 403(b) account includes both pre-tax elective deferrals and after-tax voluntary contributions. How should the QDRO address the tax character of the assigned funds?
- The QDRO need not address tax character since all distributions are taxed the same
- The QDRO should specify whether the assignment includes after-tax basis to preserve the alternate payee's cost basis (Correct answer)
- After-tax contributions cannot be assigned via QDRO
- The alternate payee automatically receives a pro-rata share of both pre- and after-tax amounts
Correct answer: The QDRO should specify whether the assignment includes after-tax basis to preserve the alternate payee's cost basis
Specifying whether after-tax contributions are included preserves the alternate payee's cost basis and determines the taxable portion of future distributions.
Question 3: A plan's normal retirement age is 65. The QDRO requests that the alternate payee receive benefits beginning at age 50 under the earliest retirement age provision. What limitation applies?
- The alternate payee can never begin benefits before the participant's actual retirement
- Benefits cannot begin before the participant's earliest retirement age under the plan (Correct answer)
- Benefits can begin at any age the alternate payee chooses
- The plan must actuarially reduce benefits by 10% for each year before age 65
Correct answer: Benefits cannot begin before the participant's earliest retirement age under the plan
ERISA allows QDROs to pay the alternate payee as early as the participant's earliest retirement age under the plan, even if the participant has not yet retired.
Question 4: How does a cost-of-living adjustment (COLA) clause in a defined benefit plan affect the QDRO drafting strategy for the alternate payee?
- COLAs are irrelevant since QDROs freeze benefits at the division date
- The QDRO should specify whether the alternate payee participates in future COLAs to avoid ambiguity (Correct answer)
- COLAs automatically pass through to the alternate payee without any QDRO language
- COLAs only apply to the participant's share, never the alternate payee's
Correct answer: The QDRO should specify whether the alternate payee participates in future COLAs to avoid ambiguity
Without explicit QDRO language, whether the alternate payee's share grows with COLAs may be disputed, so the order should clearly address COLA participation.
Question 5: Which of the following best describes the 'time rule' (or 'coverture fraction') used in community property states to divide pension benefits?
- The fraction equals community service divided by total projected service at retirement (Correct answer)
- The fraction equals total service divided by marital service
- The fraction equals the marital account balance divided by total contributions
- The fraction equals post-divorce service divided by pre-divorce service
Correct answer: The fraction equals community service divided by total projected service at retirement
The time rule fraction is community (marital) service in the numerator over total projected service at retirement in the denominator, applied to the retirement benefit.
Question 6: A participant rolls over a 401(k) balance to an IRA before the QDRO is submitted to the plan. What is the most significant consequence for the alternate payee?
- The QDRO is automatically void since the plan no longer holds the funds
- The alternate payee must obtain a separate transfer order directed to the IRA since QDROs only apply to qualified plans, not IRAs (Correct answer)
- The plan administrator must claw back the rollover to satisfy the QDRO
- The participant is solely liable for taxes on the rollover
Correct answer: The alternate payee must obtain a separate transfer order directed to the IRA since QDROs only apply to qualified plans, not IRAs
QDROs apply only to qualified retirement plans; once funds are in an IRA, a different court order (not a QDRO) is needed to divide the IRA.
Question 7: When reviewing a cash balance plan for QDRO purposes, what distinguishes the valuation from a traditional defined benefit plan?
- Cash balance plans always pay lump sums so no actuarial conversion is needed
- The hypothetical account balance serves as the primary valuation metric, simplifying division compared to traditional DB plans (Correct answer)
- Cash balance plans cannot be divided by QDRO
- The participant's salary history is irrelevant to the valuation
Correct answer: The hypothetical account balance serves as the primary valuation metric, simplifying division compared to traditional DB plans
Cash balance plans express benefits as a hypothetical account balance with a stated interest crediting rate, making the account balance the natural starting point for QDRO division.
QDRO Financial Analysis & Plan Evaluation 3
When evaluating an employee stock ownership plan (ESOP) for QDRO purposes, which unique valuation challenge must the QDRO practitioner address?