Employer Considerations for Domestic Relations Orders (DROs)

Employers who offer employee benefits in the form of qualified retirement plans should anticipate receiving a domestic relations order at some point. Upon receipt of a domestic relations order, whether in draft form or signed and certified by a court, there are certain regulatory requirements that a plan’s fiduciaries must follow. These requirements are imposed to ensure that:

1. The plan remains compliant with and protected under all relevant regulations;
2. Appropriate parties in the matter are afforded the property and rights they are entitled to within the order; and
3. The plan and employer avoid any penalties or liability in an action brought by a party named in the order. 

This article solely addresses employer requirements concerning qualified contribution plans and qualified benefit plans. Employer requirements related to federal and state government-sponsored pension plans, military retired pay plans, railroad pension plans, church plans, or requirements of individual states are not within the scope of this article.

Domestic Relations Orders Defined

A domestic relations order (DRO) is a “judgment, decree, or order issued by a court pursuant to a domestic relations law of any state or territory of the United States” that concerns family law matters such as dividing property between spouses or granting a legal right to support such as alimony, child support, or guardianship of a person. Unless a particular circumstance outside the scope of this article exists, DROs are required to inform a third party custodian, trustee, or administrator who manages the property involved that a party named in the DRO is legally entitled to receive an interest in such property that is titled in another party’s name. However, the issuance of a DRO in favor of a party with respect to certain types of property does not automatically make the DRO enforceable.

Certain types of property, such as accounts in qualified retirement plans, require a DRO to be a qualified domestic relations order (QDRO) before the property rights can be transferred or payable under a DRO. Having a QDRO is necessary for qualified retirement plans, because federal regulations do not permit a participant in a qualified retirement plan to assign or alienate their interest in such a plan to another person absent a QDRO or other limited exceptions. A DRO that is not a QDRO and is acted upon risks violating these federal regulations and can impact the amounts and protections afforded to other participants in that qualified retirement plan. For the purposes of this article, any reference to “qualified retirement plans” means qualified contribution plans (such as 401(k), profit-sharing, stock bonus, employee stock ownership, and money purchase plans) and qualified benefit plans (such as basic pension plans and cash balance pension plans).

Impact on employers sponsoring qualified retirement plans

DROs affect employers because often, DROs issued from divorce settlements include the division or transfer of retirement accounts held by a current or former employee that are subject to an employer’s qualified retirement plan. According to the Wisconsin Department of Health Services, the State recorded a divorce rate of 2.1 divorces per 1,000 Wisconsin residents (12,312 divorces in total) compared to a recorded marriage rate of 5.0 marriages per 1,000 Wisconsin residents. Considering this statistic, employers sponsoring qualified retirement plans should anticipate and be prepared to receive a DRO from current or former employees participating in their plan. If an employer sponsoring a qualified benefit plan is ill prepared to appropriately respond to a DRO and does so improperly, the employer can face the following consequences:

1. Disqualification of the qualified status of the employer’s retirement plan;
2. Legal fees incurred in response to a motion to compel performance of or appeal performance of payments or transfers made or not made in response to a DRO;
3. Lawsuits arising from a breach of fiduciary duties or negligence of the plan administrator to the parties of the DRO or the other plan participants; and
4. Lawsuits brought by the federal or a state’s Department of Labor, or (4) penalties and tax consequences imposed by the Internal Revenue Service (IRS).

Responsibility of Employers Having Qualified Retirement Plans

The focal responsibility of an employer when responding to a DRO is to determine whether a DRO would be a QDRO under applicable law and its specific qualified retirement plan and to communicate that determination timely and effectively.  To be a QDRO, the DRO must:

1. Satisfy the requirements of Internal Revenue Code of 1986, as amended (the Code);
2. Satisfy the requirements of the Employee Retirement Income Security Act of 1974, as amended (ERISA);
3. Satisfy any state-specific requirements governing the qualified retirement plan (especially those concerning property rights); and
4. Comply with the specific terms of the qualified retirement plan’s form, offerings, agreement, and procedures.

Employer Actions in Advance of Receiving a DRO

John Wooden, the former UCLA Basketball Coach, aptly said, “Failing to prepare is preparing to fail.” Wooden’s quote holds true in many aspects of life, but with preparing for a DRO response, his words are particularly prudent given the risks and required timeline to respond.

Prior to receiving a DRO, an employer’s qualified retirement plan must adopt a formal written document listing the procedures for identifying whether a DRO is determined to be a QDRO (the Procedures). This formal document is a requirement of ERISA and the Code. The Procedures are to be used for two purposes. First, the Procedures will be used by the plan administrator as a checklist to ensure that:

1. All relevant information is obtained prior to review;
2. The DRO is thoroughly reviewed in light of the specific qualified retirement plan and state laws; and
3. All actions required of the plan are performed timely.

Second, a copy of the Procedures must be provided to the parties named in the DRO (along with the most recent copy of the plan’s summary plan description) within a reasonable time after the qualified retirement plan receives a DRO. For the purposes of DRO reviews, a 90-day review period has been used by many qualified retirement plans as a reasonable time for review.

Depending on which state governs an employer’s qualified retirement plan, it is recommended to consult an attorney licensed in that state for assistance with preparing or revising the Procedures to ensure all state law requirements (e.g., treatment of a same-sex spouse, different requirements for support of a child versus alimony, etc.) and specific terms of the qualified retirement plan are incorporated in the Procedures. In addition, it is important to note that the Procedures needed for a specific qualified retirement plan differ not only by state and specific terms of the plan documents, but also by whether the plan is a qualified contribution plan or a qualified benefit plan. Qualified contribution plans typically carry fewer requirements than qualified benefit plans.

Although each qualified retirement account is required to have these Procedures, it is prudent to periodically review them to account for changes to ERISA, the Code, and any relevant changes in state law. Also, if a qualified retirement plan adoption agreement is amended at any time, it is important that the Procedures are revised in concert with that amendment, if applicable.

Employer Actions Upon Receipt of a DRO

Once a DRO is received by an employer-sponsored qualified retirement plan, it is important to understand whether the DRO is a draft DRO or a signed and certified DRO issued by a court of competent jurisdiction.

If the DRO is a draft DRO, then the plan administrator should promptly send notice to all DRO parties (including the DRO parties’ counsel, if any) enclosing a copy of the Procedures, and stating:

1. That the draft DRO was received;
2. That the draft DRO will be reviewed by the plan administrator pursuant to the Procedures; and
3. The contact information of the plan’s representative.

After the draft DRO is reviewed, a letter should be sent to all DRO parties stating whether the draft DRO would be determined to be a QDRO and if not, what specific edits would make the DRO qualified. If the draft DRO is not determined to be a QDRO, then the review process would start anew upon receipt of a revised draft DRO. Once the draft DRO is determined to be a QDRO and such decision is communicated to the DRO parties, then no action is required of the plan administrator until a signed and certified copy of the DRO issued by a court is received by the qualified retirement plan.

If the DRO is a signed and certified DRO issued by a court, then the plan administrator must send a similar notice to the DRO parties (with a copy of the most recent summary plan description included) and perform the review in accordance with the Procedures. If the signed and certified DRO is deemed to be a QDRO, then after communicating this determination to the DRO parties, the plan administrator shall keep detailed records of all actions and fulfill the terms of the QDRO as accepted.

Bottom Line

DROs are common and carry a great deal of risk to employer-sponsored retirement plans if not performed properly. To avoid risks with DROs that could have financially significant consequences, employers and their plan administrators should create procedures for determining whether DROs are QDROs under federal law, state law, and the terms of the plan and follow those procedures during review.

This article, slightly modified to note recent updates, was featured online in the Great Lakes Employment Law Letter and published by BLR®—Business & Legal Resources. Reproduced here with the permission of BLR®—Business & Legal Resources.