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As the world proceeds further into the 21st century, the traditional defined benefit retirement plan is increasingly a dying breed. Employers are finding these plans very expensive to operate as the baby boomers begin to retire, and they are seizing every opportunity to eliminate these plans or reduce their funding. As the funding of the plans is reduced, they become very vulnerable to economic downturns, such as the weakness of the airline industry following the September 11 terrorist attacks. As more plans encounter financial difficulty and are forced to reduce benefits, the reliability of the promised benefits is called into more serious question. Only in the government sector, where defined benefit plans are backed by the resources of the government itself, are defined benefit plans still common.
Outside of the government sector, defined benefit plans are of course operated and funded by employers themselves. Presently promised benefits cannot be paid from present contributions alone, so that employees are left trusting to the bare promises and continued fiscal solvency of their employers. Even though federal law establishes funding requirements for defined benefit plans, the requirements are sufficiently low (and the political will to enforce them is sufficiently weak) that at least some employers with very high profiles have been left unable to pay out all of the benefits promised by their retirement plans.
The alternative to a defined benefit plan is a defined contribution plan, such as a 401(k) plan or an IRA. Most defined contribution plans are funded with present contributions alone, so the employees are not left relying upon the future goodwill or financial health of the employer. Each participant in a plan gets actual current dollars, contributed from current salary (often with a matching contribution by the employer), and the funds are invested in a present account. The accounts are generally vested and portable; they can be rolled over into another account (including an IRA) if the employee leaves the employer. Employees do bear the risk of losing funds in a stock market decline, but most plans permit investment in money market and bond funds which earn a steady return over time. Because the employees have more control over their own retirement accounts, and above all because the promised benefits do not depend upon future actions taken by the employer, defined contribution plans will probably be the most common type of retirement benefit for many years to come.
Classification and the Time Fraction
As the business world has moved more in the direction of defined contribution plans, the law of dividing retirement benefits in divorce cases has been forced to adapt to the change. Many of the leading statutes and cases in this area were decided in the 1970s and 1980s, when defined benefit plans were still common. The holdings in these cases do not always translate well to defined contribution plans.
For example, many cases and not a few statutes define the marital share of a retirement plan using a fraction based upon years of service to the employer. See generally 2 Brett R. Turner, Equitable Distribution of Property 6:25 (3d ed. 2005). Such a fraction makes sense in the context of a defined benefit plan, for years of service is normally a very important factor in determining the size of an employee’s monthly benefit. Under a defined contribution plan, however, length of service is of secondary importance. If two employees have retirement accounts with the same balance, they receive the same benefits, even if one made small contributions over many years and the other made larger contributions over a shorter period. Time is not entirely irrelevant, for much of the balance in the account at the time of retirement will be passive investment gain on prior contributions, so that contributions made earlier will be worth more at retirement. But the primary focus of a defined contribution plan is necessarily upon dollars, not upon time.
Some states have done a better job than others in adapting to the widespread use of defined contribution plans. A few courts remain tied to earlier case law mandating the use of time-based coverture fractions, insisting that those fractions must be used even where a defined contribution plan is involved. See McGrath v. McGrath, 261 A.D.2d 369, 689 N.Y.S.2d 200 (1999); Robertson v. Robertson, 167 N.C. App. 567, 605 S.E.2d 667 (2004); O’Grady v. O’Grady, 2004 WL 1486344 (Ohio Ct. App. 11th Dist. 2004); Waldon v. Waldon, 2004 WL 720669 (Ohio Ct. App. 12th Dist. 2004); see also In re Marriage of Swanson, 321 Mont. 250, 90 P.3d 418, 423 (2004) (if court chooses to make deferred distribution of defined contribution plan, it must use a time-based coverture fraction). No state follows this position as a matter of deliberate state law. Robertson probably comes closest, but there is language contradictory to Robertson in Embler v. Embler, 159 N.C. App. 186, 582 S.E.2d 628 (2003). O’Grady and Waldon are in absolute conflict with Swaney v. Swaney, 2003 WL 220491323 (Ohio Ct. App. 5th Dist. 2003), which refused to apply a time fraction.
The result of applying a time fraction to a defined contribution plan can be grossly unfair. For example, assume that an employee established a defined contribution retirement plan one year before the marriage, rolling over a $300,000 balance from an account with a prior employer. During the marriage, the employee contributes $200 per month to the plan. One year after the wedding, the other spouse commits adultery and deserts the marriage. If a time-based fraction is used, the marital service was one year, the total service at divorce is two years, so the marital interest is 50% even though the marital contribution was only $2,400, compared to over $300,000 in separate contributions. The same unfairness could result in the other direction if a large initial marital contribution is made, followed by small separate contributions over a long period of time.
The strong majority rule is that application of a time fraction to a defined contribution plan constitutes reversible error. Such application has too much potential to create a substantially overstated marital or separate interest:
[I]n a defined contribution plan, as distinct from a defined benefits plan, proration by funds is the accurate method for distinguishing marital from separate property. Calculating the marital portion of a 401(k) plan through the use of a [time-based] coverture fraction assumes equal periodic contributions and an equal periodic rate of return. Neither assumption is likely to be accurate. Further, even if these assumptions were accurate, the time proration method would still yield distorted results because it ignores compounding. These are flaws that can result in errors of considerable magnitude.
Tanghe v. Tanghe, 115 P.3d 567, 571 (Alaska 2005); see also Mann v. Mann, 22 Va. App. 459, 470 S.E.2d 605 (1996); Paulone v. Paulone, 437 Pa. Super. 130, 649 A.2d 691 (1994); Smith v. Smith, 22 S.W.3d 140 (Tex. App. 2000); see also In re Marriage of Watterworth, 149 N.H. 442, 821 A.2d 1107 (2003); Swaney v. Swaney, 2003 WL 220491323, at *3 (Ohio Ct. App. 5th Dist. 2003) ("Appellant cannot claim a percentage of the plan is separate based solely on the number of months he contributed prior to the marriage, when there is no evidence to support a claim that contributions were equal [each month] both before and after the marriage"); In re Marriage of Hester, 122 Or. App. 147, 856 P.2d 1048 (1993) (refusing to apply coverture fraction to defined contribution plan).
This result has even been reached in the face of a statute which could be read to require use of a time fraction. For example, Mann held that a defined contribution plan should be classified under the statutory sections governing classification and tracing of bank and investment accounts, and not under the statutory sections governing retirement benefits. It held, in effect, that retirement benefits as used in the statute meant only benefits under a defined benefit plan benefits which are defined only in terms of future dollars, and which are not subject to immediate transfer and/or withdrawal. See also In re Marriage of Nyhan, 147 N.H. 768, 802 A.2d 1183, 1185 (2002) ("IRAs and 401(k) accounts . . . are not treated as pension benefits"); Langschmidt v. Langschmidt, 81 S.W.3d 741, 749 (Tenn. 2002) ("Husband’s premarital IRAs are not retirement benefits under Tenn. Code Ann. 36-4-121(b)(1)(B)"). These cases are very consistent with the intent behind the statutes they construe. Statutes requiring use of time fractions were almost always drafted in an earlier time, when defined benefit plans were comparatively common and defined contribution plans were fairly rare. The author is unaware of any court or commentator who had seriously argued as a matter of policy that time fractions should be applied to defined contribution plans.
Rather, the general rule nationwide is that defined contribution plans are classified using the same basic tracing principles that apply to other forms of financial accounts with a transferable present balance. The separate interest is the separate contributions, plus passive investment return upon them. The marital interest is likewise the marital contributions, plus passive investment return. See Dunavant v. Dunavant, 66 Ark. App. 1, 986 S.W.2d 880 (1999) (rejecting the husband’s argument that employer contributions to his defined contribution plan were gratuitous gifts from his employer); Parker v. Parker, 610 So. 2d 719 (Fla. Dist. Ct. App. 1992); Kuban v. Kuban, 48 Mass. App. Ct. 387, 721 N.E.2d 393 (1999); Brennan v. Ebel, 880 So. 2d 1058 (Miss. Ct. App. 2004); In re Marriage of Daniele, 854 S.W.2d 489 (Mo. Ct. App. 1993); Sien v. Sien, 889 P.2d 1268 (Okla. Ct. App. 1994); Oaks v. Cooper, 536 Pa. 134, 638 A.2d 208 (1994); Langschmidt v. Langschmidt, 81 S.W.3d 741 (Tenn. 2002); Mann v. Mann, 22 Va. App. 459, 470 S.E.2d 605 (1996).
Present Versus Future Distribution
Another relic of an earlier era involves the method of division. Defined benefit plans are not subject to present transfer; indeed, assignment is generally forbidden by federal law. I.R.C. 401(A)(13) (Westlaw 2006). The QDRO provisions of ERISA provide a well-known exception for transfers incident to divorce, see generally Turner, supra, 6:18, but for many years it was generally believed that the court could transfer only future payments out of the plan, not the present balance in the plan. Hundreds of thousands of spouses, over a period of several decades, received orders entitling them to a defined percentage of all future payments out of the plan.
Defined contribution plans, unlike defined benefit plans, are extremely portable. It is almost always possible to order, as a consequence of divorce, that a stated amount be withdrawn from one spouse’s account and rolled over into a similar account for the other. E.g., In re Marriage of Hester, 122 Or. App. 147, 856 P.2d 1048 (1993). Because a present transfer of retirement benefits is so easy.
For reasons which are not immediately clear to this author, the issues discussed in this article have been considered by an unusually large number of Ohio Court of Appeals cases not reported in book form. The reader is reminded that in Ohio, unlike most states, unpublished decisions clearly have precedential value. "Notwithstanding the prior versions of these rules, designations of, and distinctions between, ’controlling’ and ’persuasive’ opinions of the courts of appeals based merely upon whether they have been published in the Ohio Official Reports are abolished." Ohio Supreme Court Rules for the Reporting of Opinions 4 (Westlaw 2006). All Ohio cases cited in this article have equal precedential value in Ohio, and they should have equal persuasive value in other states.rule is that an equitable portion of the marital share of a defined contribution plan is transferred by rollover at the time of divorce. Yet one still finds isolated cases insisting that the nonowning spouse must receive a stated percentage of each future withdrawal from the plan. E.g., In re Marriage of Swanson, 321 Mont. 250, 90 P.3d 418, 423 (2004). This method of division poses a real risk of dividing value acquired after the marriage, and it creates needless financial interaction between former spouses. The law required a future transfer in the context of defined benefit plans only because a present transfer was thought to be impossible.
Indeed, some courts are now beginning to discover that a present transfer may be possible even with a defined benefit plan. The Department of Labor ruled in 1997 that a transfer of a present interest in a defined benefit plan does not violate ERISA. Under the separate interest approach, it is now possible to order the plan administrator to reduce the owning spouse’s interest to its actuarial present value and to award an equitable share of that value to the nonowning spouse. The value so awarded cannot be presently withdrawn from the plan through an immediate rollover, but it can be withdrawn by any method which the plan permits for other beneficiaries, and the method of withdrawal chosen by the former spouse need not be the same method chosen by the employee. In effect, the court can order that both spouses become independent participants in the plan. See United States Department of Labor, "QDROs: The Division of Pensions Through Qualified Domestic Relations Orders" (1997) (the original government publication approving the separate interest approach for defined benefit plans). See generally 2 Turner, supra, 6:34; Purdy v. Purdy, 2003 WL 23095483 (Ohio Ct. App. 12th Dist. 2003) (the first precedential appellate decision nationwide to apply the separate interest approach to a defined benefit plan); Eller v. Bolton, 168 Md. App. 96, 117-18, 895 A.2d 382, 394-95 (2006) ("A separate interest award is permitted by F.L. 8-205 whether the participant spouse’s interest in the plan is vested or unvested at time of the divorce"; case involved a defined contribution plan on the facts, but the court’s approval of the separate interest approach was broad on its face).
State courts have been slow to use the new power they have been granted, and the traditional future division (the shared payment approach) remains in widespread use. The shared payment approach is also required by many statutes dealing with division of governmental plans although these statutes are themselves a relic of an earlier time, and recognition of the separate interest approach might benefit employees, employers, and the plan itself. Outside of the government sector, there is a clear trend toward permitting present division of all forms of retirement benefits. That fact makes case law insisting upon a future division of a defined contribution plan seem even more anachronistic.
Classifying Defined Contribution Plans by Contributions
As noted above, in a strong majority of states, classification and division of a defined contribution retirement plan is determined by contributions. Each estate receives its contributions, plus future passive appreciation. Each separate interest is then awarded to the spouse who owns it, and the marital interest is divided equitably between the parties. All necessary benefit transfers are made by immediate rollover, not by transfer of future payments.
One especially important aspect of a contribution-based approach is that it requires the parties and the court to recall some basic equitable distribution principles. To define the marital and separate contributions, it is necessary in the first instance to focus upon the definition of a marital contribution. Almost all marital contributions are made from salary withholding, and a spouse’s salary is marital property from the date of marriage forward until the date of classification. The date of classification varies by state, but it is usually either the date of final separation, the date of filing, or the date of divorce. Almost all states have chosen one of these dates by statute or case law. 1 Turner, supra, 5:28. To measure accurately the marital and separate interests in a defined contribution plan, it is necessary to make certain that new contributions to the plan change from marital to separate as of the proper date.
Defined contribution plans also highlight the importance of distinguishing between two related concepts: acquisition and appreciation. Acquisition occurs when new dollars are placed into the plan from an outside source. The value added always follows the nature of the source, and it creates a percentage of marital or separate ownership interest in the plan.
Appreciation occurs when dollars already in the plan produce more dollars due to investment return. Appreciation in the marital contributions is always marital. See In re Marriage of Daniele, 854 S.W.2d 489 (Mo. Ct. App. 1993); Mann v. Mann, 22 Va. App. 459, 470 S.E.2d 605 (1996). Appreciation in the separate contributions is theoretically marital if produced by active marital efforts, but few spouses make substantial investment decisions regarding their retirement plans. Most of the growth in retirement plans is passive appreciation, appreciation caused by forces other than marital efforts most commonly broad movements in the securities markets. Thus, appreciation in the separate contributions is normally separate. See Thomas v. Thomas, 68 Ark. App. 196, 4 S.W.3d 517 (1999); Nail v. Nail, 872 So. 2d 394 (Fla. Dist. Ct. App. 2004); In re Marriage of Raad, 301 Ill. App. 3d 683, 235 Ill. Dec. 391, 704 N.E.2d 964 (2d Dist. 1998); White v. White, 521 N.W.2d 874 (Minn. Ct. App. 1994); Arthur v. Arthur, 691 So. 2d 997 (Miss. 1997); Getter v. Getter, 90 Ohio App. 3d 1, 627 N.E.2d 1043 (2d Dist. 1993); Thielenhaus v. Thielenhaus, 890 P.2d 925 (Okla. 1995).
Appreciation differs from acquisition in that it does not immediately create a percentage ownership interest in the plan. For example, if the marital interest increases by $100 on Monday, and drops by $100 on Tuesday, due to passive market forces, Tuesday’s loss wipes out Monday’s gain. By contrast, if a new marital contribution of $100 is made on Monday, and the market then reduces the entire marital interest by $100, the marital contribution has not been eliminated. The entire marital interest dropped by $100, but most of the drop was depreciation in other previous marital contributions. Making new marital contributions is like using marital funds to buy more stock in a company; the stock remains marital even if the value of the company drops. Market-based appreciation and depreciation in a retirement plan is like market-based appreciation in a company; one day’s loss can entirely offset another day’s growth.
Date of Distribution
Appreciation and acquisition are especially challenging concepts because they are both continual processes. Most employees contribute to their defined contribution retirement plans with every paycheck; the stock market never stops rising and falling. Obviously, to classify and value a defined contribution plan, the court must choose a date to make the computations. It will always be possible that the plan might change in value after the date chosen, but if this fact interferes with the choice, the choice will never be made. The value of defined contribution retirement plans constantly fluctuates. A date must nevertheless be chosen.
The majority rule in a litigated case is that the plan should be classified and valued on the date on which the plan administrator actually makes the transfer of benefits required by the order. E.g., Hoffman v. Hoffman, 841 So. 2d 695 (Fla. Dist. Ct. App. 2003); Rivera v. Zysk, 136 Md. App. 607, 766 A.2d 1049 (2001). The date of transfer is the most fair date, as it takes into effect all market forces occurring before the parties’ respective shares of the account are actually separated. The preference for valuing on the date of transfer is really just another aspect of the general rules that marital assets should be given the most current value available and that the court should take notice of at least major changes in value after entry of the divorce decree. 2 Turner, supra, 7:4, 7:6.
Moreover, in the specific context of defined contribution plans, the majority rule has the powerful advantage of allowing the court to delegate much of the math to the plan administrator. Assume that the wife had a premarital balance in a defined contribution plan of $100,000. Between the date of marriage and the date of classification, which is July 31, 2006, the parties made $20,000 in marital contributions. A valuation expert testifies that the $20,000 in marital contributions appreciated to $50,000 as of the date of classification. The marital interest is therefore $50,000, plus passive appreciation on that amount through the date of actual distribution. The court does not need to compute this amount. Assuming that an equal division is equitable, the judge can simply direct the plan administrator to transfer into a rollover account the amount of $25,000 (half of $50,000), plus investment gains and losses from July 31, 2006 forward until the actual date of the transfer.
Note that the marital estate receives only market growth in the marital interest between the date of classification and the date of distribution. New contributions made during this period are clearly separate property, and the marital estate has no interest in them. E.g., Hoffman.
It should be stressed that in this or any other fact situation involving defined contribution plans, there is no guarantee that investment will cause a positive change in value. While the long- term trend in the securities markets is upward, there are periods of years in which the prevailing market trend has been downward. But the possibility of a passive investment loss does not create a problem. Such losses are an inherent risk of owning a defined contribution retirement plan. A divorce court should avoid subjecting the parties to additional risk, but it is not the role of the court to protect the parties from risks they would have faced even if they had remained married. All persons who own interests in defined contribution plans, whether employees or spouses, must bear and manage the risk of investment loss.
A more serious problem is the risk of losses in value due to causes within the control of the owning spouse. Many plans permit the owner to borrow against future benefits, or even to withdraw part of the plan balance outright. In the hands of a dishonest spouse, these powers create an opportunity for outright dissipation; in the hands of a negligent spouse, these powers create a potential for foolish losses. But these risks can be managed through entry of orders enjoining the parties against taking these actions, or by adjusting the award to account for the consequences of proven misconduct. See Munson v. Munson, 772 So. 2d 141 (La. Ct. App. 3d Cir. 2000) (tax penalty on unnecessary early withdrawal from retirement account was dissipation); Roehmholdt v. Russell, 272 A.D.2d 938, 712 N.Y.S.2d 709 (2000) (wife withdrew funds from retirement account to pay attorney’s fees in divorce action, incurring early retirement penalty; valuing account on date of filing); Budnick v. Budnick, 42 Va. App. 823, 595 S.E.2d 50 (2004) (husband withdrew funds from marital retirement account "to pay court-ordered restitution and costs resulting from his criminal convictions" for fraud; trial court properly found dissipation). Note, however, that withdrawals from retirement accounts may be permitted in extraordinary circumstances. E.g., Morell v. Morell, 277 A.D.2d 780, 716 N.Y.S.2d 736 (2000) (dissipation did not result when entire balance in 401(k) plan was used to pay postseparation medical expenses).
Construction: Specific Amount
While the law prefers to classify defined contribution plans as of the date of actual division, it does not prohibit the parties from agreeing to a different result. There are also situations in which a decree following a different approach becomes final, and an erroneous judgment is just as final as a correct one. The result has been a series of cases construing particular language to determine whether it includes future investment gains and losses.
The simplest situation occurs when an agreement or decree directs the owning spouse to transfer a specific amount from a defined contribution plan. For example, in Baker v. Baker, 38 Va. App. 384, 386, 564 S.E.2d 164, 165 (2002), the parties’ property settlement agreement provided:
The wife shall have one-half of husband’s profit sharing from [Philip] Morris, valued as of the date of this agreement. The wife shall have her retirement, profit sharing, and any proceeds in her separate bank account. The husband shall retain the remaining one-half of his profit sharing at [Philip] Morris.
This language was incorporated into a divorce decree. After the decree was final, the court entered a DRO. The DRO provided that the wife would receive "$37,946.93 as of December 31, 1999. Gains and losses will be allocated from the specified date."
The husband appealed, and the Virginia Court of Appeals reversed. Because gains and losses were not awarded in the original agreement, they could not be awarded in the DRO:
[T]the final decree of divorce, which affirmed, ratified, and incorporated the property settlement agreement, is unambiguous in providing an allotment to the wife of one-half of the profit sharing plan "valued as of the date of [the] agreement." The parties agreed that amount was $37,946.93. The agreement did not additionally provide for an allocation of gains and losses to that amount. Accordingly, we reverse the entry of the QDRO[.]
38 Va. App. at 388, 564 S.E.2d at 166; see also Veidt v. Cook, 2004 WL 1373177 (Ohio Ct. App. 12th Dist. 2004); Merz-Oliver v. Oliver, 2003 WL 352470 (Ohio Ct. App. 12th Dist. 2003).
Courts have applied the same rule to investment losses. In In re Marriage of Knutson, 114 Wash. App. 866, 60 P.3d 681 (2003), the disputed asset was the husband’s Putnam 401(k) plan. A divorce decree directed the husband "to transfer $234,572 of the Putnam plan to a retirement account of Ms. Knutson’s choice[.]" The wife submitted, and the court entered a DRO directing the plan to transfer the stated amount. The plan administrator then notified the parties that the husband’s interest in the plan had lost $58,533 in value since the date of the valuation used in the decree.
The husband moved to reopen the DRO and charge the wife with her share of the loss. The trial court accepted his motion, but the Washington Court of Appeals reversed:
While the Putnam plan’s value change was certainly unfortunate from Mr. Knutson’s point of view, it was not an extraordinary event for purposes of CR 60(b)(11). The trial court entered a decree dividing the marital assets in a manner consistent with the intent of the parties as of the time of trial and further directed them to effectuate the decree through a QDRO. Neither party appealed the decree. Both parties were unhurried in processing the QDRO while the Putnam plan fluctuated in value.
Mr. Knutson complains Ms. Knutson had control of the QDRO for some period of time to his disadvantage. But, both parties had more or less equal incentives and disincentives to process the QDRO in a volatile market environment. In a stable stock market, this type of argument would be hollow; naturally, in a rising and falling market both parties bear some risk in deciding upon a particular valuation date. The evidence here shows a June 2000 valuation date was agreed. In light of all the other assets to be divided by the court and its use of a balancing judgment at that time to effect an equal division between the parties, the interests of finality are well served by carefully observing the dictates of CR 60(b).
114 Wash. App. at 873, 60 P.3d at 685. Thus, even though the plan dropped in value, the wife still received the exact amount stated in the divorce decree.
As Knutson suggests, a change in the value of a defined contribution plan is not a sufficient reason to reopen a DRO that has already become final. In Harris v. Harris, 162 N.C. App. 511, 512, 591 S.E.2d 560, 560-61 (2004), a consent order provided:
In order to effectuate the equitable distribution of the marital property of the parties as set forth herein, the Plaintiff shall pay as a distributive award to the Defendant the sum of Eighty-one Thousand Dollars ($81,000.00) and shall be paid by way of a distribution to the Defendant from the Plaintiff’s R.J. Reynolds Capital Investment Plan. This Court shall enter an appropriate Qualified Domestic Relations Order to effectuate this transfer of retirement funds from the Plaintiff to the Defendant.
The husband then prepared a DRO, which the trial court entered and the plan administrator qualified. The DRO provided:
From the benefits which would otherwise be payable to the Participant under the Plan, the Participant assigns to the Alternate Payee, and the Alternate Payee shall receive from the Plan, a benefit equal to $81,000.00, plus gains and/or losses earned on that amount from January 9, 1999 up to and including the last day of the month preceding the date of distribution of the benefit payable hereunder.
162 N.C. App. at 512, 591 S.E.2d at 561 (emphasis added).
In accordance with the emphasized language above, the plan administrator paid the wife $100,750.31, an amount which included substantial postdivorce, predistribution investment gains. The husband then moved to reopen the DRO, arguing that the use of language permitting an award of investment gains was contrary to the original consent judgment. The trial court granted the motion and amended the DRO to strike the emphasized language. The appellate court affirmed:
The facts of this case make relief under Rule 60(b)(6) appropriate. Defendant received an additional $19,750.31 to which she was not entitled simply due to the wording in the QDRO. The evidence supports the conclusion that both parties intended that plaintiff only receive a set amount of $81,000.00 through the distributive award. In fact, the equitable distribution consent judgment awarded the R.J. Reynolds Capital Investment Plan wholly to plaintiff. Similarly, the judgment awarded the Teachers’ & State Employees’ Retirement System Plan to defendant. Neither party was awarded any interest whatsoever in the other’s retirement plan. Plaintiff was simply ordered to pay defendant $81,000.00 as a distributive award to make the division equitable. In this case, the money for the award was ordered to come from plaintiff’s R.J. Reynolds Capital Investment Plan. The fact that the money for the award originated from a retirement plan is immaterial. The origin of the money does not transform an ordinary distributive award into a division of a retirement plan whereby the payee can reap the benefits of subsequent gains.
162 N.C. App. at 515, 591 S.E.2d at 562.
Along similar lines, in Lee v. Lee, 167 N.C. App. 250, 252, 605 S.E.2d 222, 223 (2004), an agreement incorporated into the divorce decree provided that "Plaintiff, on the five-year anniversary of the account, 1 January 2003, was to receive the greater of $402,393.00 (hereinafter ’lump sum payment’) or one-half of whatever monies were in the account on that date." The husband moved to set aside a DRO based on the agreement, arguing that the plan had dropped in value and that the wife should bear her share of the loss. The trial court disagreed, and the North Carolina Court of Appeals affirmed:
[D]efendant alleged that the economic downturn in the stock market provided extraordinary circumstances sufficient to invoke an equitable remedy under Rule 60(b). However, as the North Carolina Supreme Court has previously noted, "[s]tock market prices, as even the most casual observer knows, change constantly and the market price at the end of a thirty-day period would almost always be different from that announced thirty days before." Sheffield v. Consolidated Foods, 302 N.C. 403, 422, 276 S.E.2d 422, 435 (1981). A change in the value of the stock market over the course of five years does not amount to an extraordinary or even unforseeable [sic] circumstance. There was therefore no abuse of discretion by the trial court in its denial of defendant’s Rule 60(b) motion to revise the lump sum distribution portion of the equitable distribution order.
167 N.C. App. at 258, 605 S.E.2d at 227.
An Indiana case presented an unusual fact situation in which the principle set forth in the above cases was literally at war with itself. In Case v. Case, 794 N.E.2d 514, 516 (Ind. Ct. App. 2003), a divorce decree provided "that [Michael] was to receive Forty Thousand Three Hundred Eighty-Nine and 48/100 ($40,389.48) Dollars of the 401(k) Plan and [Donna] was to receive Fifty Thousand ($50,000.00) Dollars from it." The value of the plan then dropped by over $25,000. The husband moved to modify the decree so that both parties shared the loss, and the trial court granted the motion. The Indiana Court of Appeals affirmed:
[T]he dissolution decree indicated that, based on the $90,389.48 value of the 401(k) plan, Donna was entitled to $50,000, and Michael was entitled to $40,389.48. But that allocation became impossible when the value of Michael’s 401(k) plan decreased . . . . [T]he trial court’s May 2002 decree contemplated that both parties would share in the risks and rewards associated with the 401(k) plan.
Id. at 518. The key fact in Case was that the original decree awarded a sum certain to each spouse. When the value of the plan dropped, it was literally impossible to implement the plain language of the decree. Awarding the stated sum to either spouse would necessarily have left the other spouse with less than that spouse’s stated award. Because the decree did not suggest that either spouse’s award controlled over the other’s, the appellate court held that the trial court correctly apportioned the loss between the parties. The net effect was that the parties bore proportionally the harm caused by the fact that the original decree could not be literally implemented.
Case obviously shows that in future cases, those who draft orders dividing defined contribution plans should consider the allocation of postdivorce, predistribution gains and losses and, above all, should refrain from awarding both spouses stated amounts from the same defined contribution plan. Unless no market changes occur between divorce and distribution, such an order almost guarantees future litigation.
The above cases all hold that where the decree states a certain award to one spouse alone, without mentioning future gains and losses, that spouse receives exactly the stated amount, even if the plan balance changes substantially before the date of distribution. But another line of cases adopts the exact opposite approach. In Greenwood v. Greenwood, 746 A.2d 358, 359 (Me. 2000), a separation agreement incorporated into a divorce decree provided:
The sum of Forty-Three Thousand and Five Dollars (43,005.00) shall be transferred to Wife from Husband’s Merck Pension Plan by a Qualified Domestic Relations Order, in the form attached hereto as Exhibit B. For purposes of this Agreement, this transfer equals fifty percent (50%) of the value of the marital property component of the Pension Plan.
The parties then learned that the plan would not permit a direct transfer of benefits to the wife until the husband reached age 55. Upon learning this fact, the wife submitted a proposed DRO which awarded her the stated sum, plus gains and losses. The trial court entered this order, and the Maine Supreme Court affirmed:
At issue in this case is the provision dividing Paul’s pension plan. The provision does not state when Judith is to receive her $43,005. Because it can be read to require either an immediate lump sum payment or a payment at a later date, the provision is ambiguous as a matter of law. The court found that the intent of the provision was to divide the marital component of the pension plan equally. That interpretation is consistent with the language of the provision and is supported by the record.
The parties themselves originally interpreted the provision as calling for a distribution of $43,005, an amount that in fact represented one half of the value of Paul’s pension plan at the time of the divorce. The evidence demonstrated that if Judith were forced to wait until Paul’s retirement to receive her distribution, then the $43,005 would be worth far less than the 50% of the value of Paul’s pension that the court represented it was equal to. Contrary to Paul’s contention that the intent was to set aside no more than $43,005 to Judith, such a result would be inconsistent with the reference to 50% of the marital component of the pension and would provide an incentive to Paul to defer payment to Judith, a result that would not be favored. Rather, it is entirely consistent with the language of the judgment that Judith receive 50% of the value of the marital component of the plan, and there is little to indicate that Judith is to receive anything less than 50% of the marital component as calculated at the time of distribution. If the intent were to set aside only $43,005 as opposed to one half of the value of the martial [sic] portion of the pension, there would have been little need to mention the 50%. The trial court’s conclusion that Judith is entitled to receive 50% of the marital component of the pension plan is consistent with the language of the provision.
Id. at 361. Greenwood presented an extreme fact situation, in that the distribution from the plan could not be made until many years after the date originally contemplated by the parties, so that the effect of awarding only the stated sum would be to deprive the wife of a substantial amount of value. The express reference to an equal division in the decree gave some reason to believe that this was not the parties’ intent. Still, Greenwood paid more attention to the intent of the agreement and less attention to the language used by the parties than some courts in other states have.
Another unusual fact situation arose in Bitner v. Hull, 695 N.E.2d 181 (Ind. Ct. App. 1998). There, the original divorce decree awarded the wife exactly $53,000 and $15,049 from the husband’s two defined contribution retirement plans. The husband then refused to cooperate with entry of a DRO, resulting in considerable delay in enforcing the transfer. The trial court eventually entered a DRO awarding the wife a percentage of the value of the plans, rather than an exact amount, and the husband appealed. The Indiana Court of Appeals affirmed:
Wife met with strong resistance when she originally attempted to collect the equity fund money due her under the decree. By the time Wife was finally in a position to collect, Husband had contributed more money into the fund and many months had passed. Had the trial court not excluded Husband’s portion from Wife’s award, Wife would have received more than the decree allocated or the law allows. See Waggoner, 531 N.E.2d at 1189. Likewise, had the trial court not specified that interest, earning[s], and losses were to be factored into each party’s award, neither Wife nor Husband would have received a proper award. See also DeHaan v. DeHaan, 572 N.E.2d 1315, 1328 (Ind.Ct.App.1991) (noting that trial court has discretion to decide whether to award interest when marital property division payments are deferred), trans. denied. In summary, we conclude that the changes made in the amended QDRO are not improper modifications; that is, those which change the judgment in any essential or material manner.
Id. at 184. Again, the court did not place great weight upon the plain language limiting the wife’s transfer to a sum certain. The result was heavily influenced, however, by the court’s clear belief that the husband’s unreasonable failure to cooperate in the entry of a QDRO had caused unnecessary delay in enforcement.
Another factual variation was presented in Duran v. Duran, 657 N.W.2d 692 (S.D. 2003). The divorce decree in that case awarded the wife $244,280 from the husband’s profit-sharing and savings plan. The decree was implemented with a DRO, which provided:
The sum of [$244,280] is hereby ordered assigned and transferred into and segregated into a separate account by the Plan Administrator of the Savings Plan and from ESOP solely in the name of [Cheryl] for [Cheryl’s] sole and exclusive benefit, together with all earnings thereon from the date the separate account is established for [Cheryl] to the valuation date preceding the date of distribution to [Cheryl].
Id. at 695. Of the amount awarded, $38,000 was to be used to repay specific marital debts, and the remainder was a general award to the wife.
Unfortunately, the husband was employed by Enron. Between the date of the DRO and the date of distribution, Enron stock suffered from what the court called in understated fashion "a precipitous decline in value" a loss of $57,292 over a period of only two months. Id. The trial court held that the husband must bear the risk of loss on the $38,000 meant to pay the debts, so that this amount must come out of the plan regardless of the drop in value. The trial court further held that the wife must bear the risk of loss on the remaining amount of the award, so that she bore the postdivorce loss on her share of the plan.
On appeal, the South Dakota Supreme Court affirmed. In a litigated case, the parties would each have received gains and losses on their respective shares of the plan. "Timothy’s case is no different except for the fact that it involves an allocation of pre-distribution losses instead of gains. We conclude that the trial court was well within its power, authority and discretion in interpreting the provisions of the Stipulation and the QDRO such that both parties bore their respective risk of market losses." Id. at 698. The court may well have been influenced by the extraordinary and unforeseen nature of Enron’s implosion. The fact that the parties expressly shared gains under the DRO also tended to support a holding that they should bear losses on the division of the plan itself. The $38,000 obligation to pay marital debts was not a direct division of property, but rather a convenient device for repaying certain debts already assigned to the husband, and on that basis the trial court’s refusal to reduce the award by losses was also affirmed.
Construction: Percentage Award
When the original substantive order states the nonowning spouse’s interest as a percentage, without stating a date on which the percentage should be computed, the general rule is that the percentage must be applied as of the date of actual distribution.
The point is illustrated by Taylor v. Taylor, 258 Wis. 2d 290, 653 N.W.2d 524 (2002). The agreement in that case awarded the husband 65% and the wife 35% of the husband’s 401(k) plan. No specific date of distribution was stated. The wife subsequently proposed a QDRO implementing the decree by awarding the wife 35% of the plan balance on the date on which the divorce decree was entered. The husband objected, on the basis that the plan had declined in value since the divorce. The trial court agreed with the wife, and the Wisconsin Court of Appeals affirmed:
[A]lthough time may have proven Susan’s acceptance of a percentage share of Daniel’s 401(k) plan as an unfortunate choice, neither we nor the trial court are in a position to rewrite the agreement or the divorce judgment incorporating it in order to eliminate Susan’s loss. Quite simply, in agreeing to accept a percentage share of a variable asset, Susan agreed to assume a proportionate share of any subsequent gains or losses until such time as she liquidates the asset.
258 Wis. 2d at 298, 653 N.W.2d at 528 (emphasis added). The court expressly held that sharing gains and losses until actual distribution is wise policy:
Susan asserts in her reply brief that allocating a proportionate share of plan losses incurred after the divorce date to her share of the account "is against fairness, policy, and judicial efficiency." We disagree. Daniel actually lost more in dollar value from the post-divorce diminution of the 401(k) plan than did Susan, given that his post-divorce share of the plan was almost twice that of Susan’s. We fail to see how "fairness" would be served by shielding Susan from any post-divorce decline in plan value, while imposing the entire loss on Daniel.
Moreover, we note that many assets that are awarded to one party or another, or are divided on a percentage basis at the time of a divorce, may fluctuate in value thereafter. We conclude that judicial economy would be ill-served by permitting any party who suffers a loss upon liquidation of an asset awarded to him or her in a divorce to seek a judicial reallocation of the loss. If a party desires the comfort and security of a fixed dollar sum from a divorce property division, that is what he or she should bargain for or ask the court to order, as did the wife in Schinner. In short, we see no equitable or policy reason why Susan should be relieved from the terms of the property division to which she agreed.
258 Wis. 2d at 298-99, 653 N.W.2d at 528-29; see also Redlinger v. Redlinger, 111 S.W.3d 413 (Mo. Ct. App. 2003). Thus, where a decree or DRO simply awards a percentage, without stating a date, the general rule is that the percentage is applied by the plan administrator at the time when the benefits are actually transferred.
Where the original order makes a percentage award as of a specified date, many of the cases hold that the stated date is controlling. For example, in Grecian v. Grecian, 140 Idaho 601, 602, 97 P.3d 468, 469 (Ct. App. 2004), "the final decree ordered that the funds in the 401(k) plan be divided evenly between the parties as of the marriage dissolution date, May 11, 2000, when the plan had a value of $64,011.46." The decree was implemented in a DRO, but the plan administrator transferred to the wife only half of the balance of the plan on the date of distribution, a materially smaller amount due to investment losses. The wife then moved for a money judgment equal to the loss in value of her interest, arguing that she was entitled to half of the balance on the stated date, May 11, 2000. The trial court agreed, and the Idaho Court of Appeals affirmed:
It is clear from [the decree and the DRO], the language of which does not conflict, that the marriage dissolution date was the intended valuation date for calculating Orzetta’s share of the 401(k) plan. Under neither the divorce decree nor the QDRO does there appear any other date which could be interpreted as the intended valuation date.
140 Idaho at 604, 97 P.3d at 471.
Likewise, in Fahey v. Fahey, 24 Va. App. 254, 481 S.E.2d 496 (1997), the parties signed a property settlement on July 28, 1994. The agreement divided three Keogh accounts, requiring the husband to "promptly arrange to transfer to [Mrs. Fahey] one-half ( 1/2) of each of these accounts . . . pursuant to a Qualified Domestic Relations Order." 24 Va. App. at 256, 481 S.E.2d at 497. A DRO was then entered with regard to one of the plans, awarding the wife "one-half of the accrued value of the Plan as of July 28, 1994," the date of the agreement. Id. The DRO became final with no objection from the husband. Some time later, after the plan increased in value, the wife moved that the DRO be amended to award her gains and losses after the specified date. The trial court granted the motion, but the Virginia Court of Appeals reversed:
Here, the manifest intent of the original order was to allot Mrs. Fahey one-half of the value of the IDEX account on July 28, 1994. We recognize that this method of division later disfavored her because the account increased in value, but the court was without authority to substantively modify its order simply to redress this changed circumstance. . . . Accordingly, we reverse the amended QDRO and direct the trial court to decree distribution of the IDEX assets pursuant to the original QDRO.
24 Va. App. at 257, 481 S.E.2d at 497. The court’s quick assumption that the "manifest intent" of the agreement was to divide the accounts as of the date of the agreement is questionable. Many decisions construe silent agreements to award the stated percentage on the date of distribution. E.g., Taylor. But it is surely relevant that both parties accepted without objection the first DRO, which used the July 28, 1994 date. The original decree did not establish on its face a date for application of the wife’s percentage, but the failure of either party to appeal the first DRO is good evidence that the parties intended to transfer the balance existing on the date of the agreement.
While many of the cases enforce a stated date provision in a percentage transfer, other courts have refused to do so. In In re Marriage of Gardner, 973 S.W.2d 116, 118 (Mo. Ct. App. 1998), the divorce decree awarded the wife "[a] fifty percent interest in the John D. Gardner Pension & Profit Sharing Trust as of December 31, 1991." To enforce this award, the trial court entered a DRO, but the DRO awarded the wife gains and losses after December 31, 1991. At some point after the DRO became final, the husband asked the court to enter a new order awarding the wife no gains or losses after the stated date. The trial court refused to enter such an order. In a strongly worded opinion, the Missouri Court of Appeals affirmed:
As observed earlier, the dissolution decree was entered twenty-one months after the date used by the trial court in valuing Beth’s fifty percent share in the Plan at $216,252.50. Because the Plan’s assets were generating earnings (or losses) from and after the valuation date, it would have been virtually impossible for the trial court, in entering the decree September 21, 1993, to include therein the precise dollar value of Beth’s fifty percent share at the instant the court signed the decree.
John’s theory appears to be that because the E5 award did not specifically provide that Beth was to receive the earnings (or losses) generated by her share in the Plan after December 31, 1991, the decree implicitly awarded such earnings (or losses) to him.
That is nonsense. The effect of such a construction would be to award one party the earnings (or losses) generated by an adverse party’s assets.
Id. at 127. The appellate opinion expresses frustration with the husband’s brief, and the husband himself, as administrator of the Plan, had apparently attempted to frustrate the wife’s award. These factors may account for the strength of the court’s opinion. But the Grecian court would probably be surprised to learn that the result reached in its opinion had been summarily dismissed in Missouri as "nonsense." Id.
A better explanation of the rationale for looking past a date stated in the order is set forth in Jardine v. Jardine, 918 So. 2d 127 (Ala. Civ. App. 2005). The decree in that case provided:
The collective balances existing on the Husband’s tax-deferred retirement/profit sharing accounts [three accounts listed], along with the balances on deposit in the wife’s tax-deferred retirement/profit sharing accounts [two accounts listed], shall be determined as of June 30, 2001, and the Wife is hereby awarded a sum equal to forty-five percent (45%) of the collective total minus the current balances on her above identified accounts, so that the Husband receives fifty-five percent (55%) and the wife receives forty-five percent of the total amount[.]
Id. at 129. A DRO implementing this provision was not prepared for a considerable time, during which the plan declined significantly in value. The court expressly held that the delay did not result from the fault of either party. The trial court awarded the wife gains and losses on her share of the accounts after June 30, 2001.
On appeal, the Alabama Court of Civil Appeals affirmed. The court seemed to recognize that the decree was unambiguous on its face. But it refused to read the language used in the decree without reference to future factual changes. "Language in a judgment that is unambiguous on its face can become ambiguous when considered in the context of postjudgment factual developments not anticipated by that language." Id. at 133. By this standard, the decree in Jardine was ambiguous:
[A]t the time the divorce judgment was entered in the present case, neither the parties nor the trial court anticipated a material delay in the implementation of paragraph 18 of that judgment. As a result, that judgment was "ambiguous" to the extent that it did not state how the parties’ retirement accounts were to be divided in the event of a delay of execution during which the values of the accounts at issue declined to the point that the total value of the accounts as of June 30, 2001, was no longer available so as to enable the wife to receive 45% of that value and the husband to receive 55% of that value.
Id. at 132. Because the decree was ambiguous, the trial court did not err in construing it in accordance with the result which the parties intended to reach. One judge dissented, arguing in essence the same position which the Idaho court accepted in Grecian.
The majority in Jardine relied in particular upon Washington v. Washington, 234 Wis. 2d 689, 611 N.W.2d 261 (2000), which it cited as a primary source for the rule that a judgment which is unambiguous on its face can be ambiguous in light of further factual developments. Washington involved a dispute over future growth in a defined benefit plan, a materially different issue because defined benefit plans generally are not divided until the time of retirement. (The separate interest approach theoretically permits present division, but courts are only just beginning to become aware of its existence.) In the context of a defined benefit plan, if the former spouse is limited to a share of the benefits at the time of divorce, the benefits will be valued years before they are divided, and the former spouse will be deprived of years of passive appreciation in the marital interest. A defined contribution plan, by contrast, is clearly subject to immediate division at the time of divorce, and through diligent preparation of DROs, the time period between divorce and distribution can be reduced to matter of months. The mandatory delay of many years between divorce and distribution of a defined benefit plan is very different from the minimum delay of only a few months between divorce and distribution of a defined contribution plan.
Jardine also relies greatly upon its assessment that the parties did not anticipate that the value of the plan would change materially during the delay between divorce and distribution. Such changes were not actually foreseen by the language used, but it would be hard to argue that the changes were not foreseeable. As the Lee court noted, the stock market is in constant motion, and even inexperienced investors know that values of publicly traded securities fluctuate constantly. The possibility that divorce litigation might take a period of months to resolve is known to all domestic law practitioners and judges, and to many divorce litigants as well. Against this background, Jardine’s claim that the market changes which occurred were extraordinary and unforeseeable is open to question. There is a good argument that the changes were ordinary and foreseeable, and therefore not the sort of unexpected development which should render an agreement or decree ambiguous. Divorce litigants should be encouraged to anticipate foreseeable risks and account for them in their agreements and orders, or the volume of postdivorce litigation will rise significantly. The author agrees with the result reached in Washington, but agrees with the dissent in Jardine. The postdivorce facts of that case, if not actually foreseen, were certainly foreseeable.
A result similar to that in Jardine was reached in Buchanan v. Buchanan, 2005 WL 3338872, at *3 (Ala. Civ. App. 2005) (not yet released for publication). The divorce decree in that case stated that "[the] wife shall receive, as of the date of the final [judgment], one-half (1/2) of the existing shares of Husband’s 401(k) retirement account." Id. at *1. The plan dropped in value, and the parties had the foreseeable dispute as to whether the DRO necessary to implement the order should include or exclude losses on the wife’s share of the account after the date of the order. The trial court awarded the wife half of the balance on the date of divorce. The Alabama Court of Civil Appeals reversed, writing a strong opinion favoring awards of gains and losses:
A review of the previous decisions of this court and of cases from other jurisdictions indicates that when a divorce judgment awards a spouse a percentage share of a variable asset and the award is silent with respect to market fluctuations in the value of the asset before the time of distribution, the judgment is inherently ambiguous; if the spouses are equally responsible for the delay in distribution, each spouse assumes a proportionate share of any subsequent gains or losses in the asset until such time as the share is distributed, and that is true even if the judgment awards a spouse a percentage of the value of the asset on a specific date.
Id. at *3 (emphasis added). The statement made is certainly correct when the decree makes a percentage award without stating a date. Since that was the fact situation in Buchanan, ample authority supports the court’s holding. The emphasized language is supported by Jardine and Taylor, but opposed by Grecian and Fahey.
As time progresses, costs related to the retirement of the baby boom generation are almost certain to increase. The foreseeable result is that defined benefit plans will be expensive to operate and unreliable in the face of economic adversity. Defined contribution plans are already the current trend, and they are likely to be the primary source of privately provided retirement income for many years to come.
In light of this fact, the courts need to articulate clear, consistent, and equitable principles for classifying and dividing defined contribution plans in divorce cases. Blind reliance upon case law decided in the context of defined benefit plans is dangerous, for the two types of plans are very different. To allow defined benefit plans to dominate the law on dividing retirement benefits is to remain stuck in the 20th century. In the 21st century, if the law is to focus upon one type of benefit, it would do better to focus upon defined contribution plans. An even better approach would be to let the law regarding these two basic types of retirement benefits diverge in proportion to the clear basic differences in their structure.
At the classification level, courts are generally meeting the demands which changing times have placed upon them. Most courts are using a tracing-based analysis to classify defined contribution plans; use of time fractions is an extreme minority rule. There may be some risk in the future that aggressive applications of commingling-based doctrines will cause the courts to overestimate the marital interest in too many plans. Marital and separate interests often exist together in defined benefit plans; they should also be permitted to coexist in defined contribution plans. Apart from this point, and the continued need to avoid the use of time fractions, the law of classifying defined contribution plans is mostly in good condition.
The division level poses a wider variety of problems. Most courts have recognized the need to divide defined contribution plans by a present rollover of a part of the plan balance, and not by years of shared future payments. But the law on postdivorce gains and losses is in a state of confusion.
Courts need to recognize a strong general rule that in a litigated case, the marital share should share in market-based fluctuations (though not, of course, in new contributions) until the date when the former spouse’s interest is actually transferred into a new account. Attorneys drafting settlement agreements and litigants signing them need to be aware that changes in the plan between divorce and distribution are inevitable, and they need to include in their agreements clear provisions regarding such changes. These provisions should then be enforced neutrally by the courts, without any preference for including or excluding changes. The proper policy in a litigated case is to include future increases, but this policy is not so strong that it should override a contrary determination made by the parties. If market fluctuations alone are a sufficient basis to reconsider divorce decrees dividing defined contribution plans, there will be a burdensome increase in postdivorce litigation, for market fluctuations and delays in entering DROs are highly foreseeable.
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