The Gray Area in Gray Divorce
Going through a divorce in your 50s or beyond can be especially complicated and fraught with financial implications. There are two areas in particular you need to be prepared for: taxation of alimony and updating your estate plan.
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An emerging pattern in American family life is gray divorce, defined as divorce among partners over the age of 50. In fact, the divorce rate among those 50 and older has doubled since 1990, according to Pew research.
Divorce is a process that, understandably, elicits powerful emotions — and oftentimes most of the energy and effort during a divorce is spent managing those emotions. However, there are other pragmatic concerns for those getting a divorce, specifically as it pertains to personal and family finances. And now, with recent changes brought forth by the 2017 Tax Cuts and Job Act (TCJA), there are additional financial considerations that need to be taken into account when navigating divorce.
Often, people default to relying solely on their divorce attorneys for guidance on how to get through the process without harm. While a reliable attorney is critical to the process, it’s in the best interest of all parties involved to also have a Certified Divorce Financial Analyst (CFDA) in their corner. Financial advisers with expertise in navigating divorce can help people at any age, but they can be even more important for older people, who tend to have much more complex financial lives.
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There are many guidelines to consider during the divorce process, and below are two of the more unique lessons we’ve learned in our years working with clients.
Lesson #1: Consider Tax Laws When Dividing Assets
TCJA brought major changes to how alimony payments are taxed. Under previous laws, alimony was tax-deductible for the payer and taxed for the receiver. The new law, which has already led to more contentious divorce proceedings, essentially flipped that structure. For couples who divorced after Dec. 31, 2018, payers do not receive a tax deduction for alimony payments, and recipients no longer pay taxes on them.
This is a monumental change with the potential to create even more contested interactions, particularly in gray divorce cases involving individuals who are at least 59½ years old and have significant assets and retirement savings. In virtually all cases, the spouse paying the alimony earns more money and may be in a higher tax bracket. Under the new law, that individual and his or her legal team will work to minimize alimony payments and the tax impact that comes with them. They may negotiate for greater assets to come from retirement funds through a qualified domestic relations order (QDRO). This money would never be taxed for the alimony payer, but the recipient would be required to pay taxes on it.
Lesson #2: Make an Appointment to Change Your Estate Plan
In most cases, a divorce spurs estate plan changes. But the timing of these changes can sometimes be complicated and require planning and foresight. Here’s an example:
A husband with a significant pension was going through a divorce and had a teenage son. With the settlement date approaching, the husband needed to change the beneficiary on his pension and life insurance policy. State law prevented him from listing his son as a beneficiary on the pension, because only a spouse can be the beneficiary of a pension if you are married.
Creating the best outcome required addressing multiple issues, some of which could not be fully resolved until the actual divorce settlement was finalized. The spouse is always the beneficiary of a pension. That holds until the divorce is the final. You can change the beneficiary on a life insurance policy or investment account. However, in many states, a retirement plan such as a 401(k), 403(b) or any IRA plan requires spousal approval to name a beneficiary other than the spouse. But spouses aren’t likely to sign off on that during a divorce.
The moral of the story is to do everything you can leading up to the divorce settlement, so that once the deal is final, you can protect your assets without delay. Soon-to-be-exes are also allowed to negotiate an agreement to this effect before the divorce is final. That would serve as a de facto insurance policy against an unexpected death before the beneficiaries are changed.
As for the beneficiary issue, there are ways to ensure that minor children are taken care of in the event of tragedy. Setting up a trust is a standard practice that protects the assets of a person going through a divorce, and also allows for more control of how the assets are handled. We recommend that our clients create trusts for their children into their 20s. Though at that point they are of legal age, a trust protects them from their inexperience in managing their own money, the potential of a future bankruptcy or the potential of a future divorce themselves.
The Unexpected Truth About Divorce
Compared to other major family events, divorce is perhaps the most difficult to address. Divorce is neither guaranteed, nor inevitable. Any planning is reactive and happens on a much more compressed timeline, so it’s often difficult to balance the strong emotions associated with divorce with the actual work that needs to be done. This is especially difficult in gray divorces because the relationships have typically lasted longer, and the financial considerations are more complicated.
Coupled with the new implications of TCJA in divorce proceedings, it makes it even more important to have the right people in your corner who have learned these lessons and helped others navigate them.
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