Ohio residents who may be splitting retirement account funds in a divorce settlement should understand how and what this may mean from a tax perspective. Employer retirement accounts like 401K accounts are held in only one person's name. Under normal circumstances, that named participant is the only person legally allowed to receive money from the account. In addition, any distributions made to that person that are outside the scope of retirement may be subject to early withdrawal penalties or taxes.
The Internal Revenue Service explains that it may be possible to split the assets in a 401K account with a spouse as part of a property division settlement and avoid these penalties and taxes but only in certain circumstances. First and foremost, the use of a qualifed domestic relations order will be required. A QDRO is a legal way of establishing a person other than the plan owner as eligible to receive funds from the account.
In addition to a QDRO directing the transfer of funds to a non-account owning spouse, what that non-account owning spouse does with the funds may also impact penalties and taxes. In order to avoid these things, money received must be reinvested into another qualifying retirement account.
According to the U.S. Department of Labor, a person's 401K account may also be used to pay spousal support or child support per a qualified domestic relations order. If used for spousal support, the recipient spouse may be responsible for taxes. If paid to a child or dependent for child support, the account owner will be responsible for taxes.