Keeping Your Divorcing Clients Focused

Wealth managers who are not specialized and focused on divorce can easily make mistakes working with divorcing clients. Here are some basic tips for financial advisors with divorcing clients:
Every divorce has three major financial components: alimony, child support, and property distribution. Alimony, child support, and property division are all determined by the laws of the state that your client is divorcing in.
Alimony can be deducted by the payor and is taxable as ordinary income by the recipient in most cases. Child support is considered an after-tax payment—it cannot be deducted or taxed. Many spouses receiving the money are inclined to take all of the monies as child support, but even though it’s counterintuitive, this may not be the best plan of action for a client.
The goal for a financial advisor is to make as much money available to your client’s family as possible. In those situations where there is a large disparity in income between the divorcing parties, it is often prudent to have the higher income earner take the deduction. Doing so frees up available cash for the lower income earner. This is also assuming that the payor receives a deduction at the 35-40% effective tax rate, and the recipient pays taxes at 10-15% tax rate, that excess cash differential is available for both the recipient and their children.
Learn That Not All Things Are Equal.
It depends on the divorce settlement decrees, but alimony can be modified if there are significant changes in circumstances. However, property is a one-time deal. While dividing property, it’s important to remember that not all assets are necessarily equal.
Example: If there is $150,000 in cash and a $150,000 stock portfolio and one spouse procures the portfolio, this is an equal distribution, but it may not be an equitable distribution. Securities may be transferred incident to divorce, and are not taxable on transfer, but they do not retain the original cost basis.
What to do with the house?
If one spouse desires to keep the house, make sure that the party can refinance—removing the divorcing spouse from both the deed and the mortgage documents. Even if the divorce agreement states that one spouse is keeping the house, and the other is absolved of all financial responsibility, banks do not recognize these agreements. If the former spouse defaults, as far as the bank is concerned, the other party is still responsible for payment.
Ensure Investment Portfolios are Properly Evaluated
IRAs and 401(k) plans/ defined-contribution plans are easy to evaluate. Values of an investment portfolios are indicated on statements and can be divided by either share value or cash value on an agreed-upon date. Dividing a pension plan in the same manner is an incorrect plan of action and can potentially cost involved parties a great sum of money. Division of pension plans requires an actuarial calculation to determine present value of the future income stream. Actuaries calculate the values of these defined-benefit plans.
It’s also important to note that IRAs don’t require any qualified-domestic-relations-orders (QDROs) because these are not considered ERISA assets. However, they do require the proper paperwork so as to be divided without triggering taxable distribution. Most mutual fund companies have instructions online for dividing their IRAs.
However, defined-contribution plans and defined-benefit plans require QDROs—these are included in the ERISA plan designation. These orders are typically written by specialized professionals. That being said, it is sadly all too common that QDROs are written but never filed—meaning the assets have not been transferred.
If a working spouse has remarried and assets have not been divided and consequently transferred into the alternate payee’s name, if the employee passes away, the former spouse could lose those assets. When dealing with divorced clients, it is the savvy wealth managers that ask if all retirement assets have been settled and transferred.
Divorce is, unfortunately, common in many of your clients’ lives today. Financial planners who don’t specialize in divorce may find it makes sense to partner with another professional that may have specialized training and the financial experience it takes to navigate a divorce to include in the financial analysis pre and post-divorce.