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Same-Sex Married Couples Can Expect Changes in Qualified Retirement Plans

By: Nancy M. Rice, Esq., CELA

New Jersey’s recognition of same-sex marriage has resulted in significant changes to the rights of same-sex couples. Married same-sex couples now have the same rights as all married couples. As a result, there are changes with retirement benefits and Individual Retirement Accounts (“IRA”) and how they are taxed to beneficiaries that inherit these funds. The recognition of same sex marriage means that same-sex married couples have greater options when it comes to the inheritance of IRAs and most retirement benefits. It is important to note that in order for same-sex couples to have these different options, they must actually be married. A civil union or domestic partnership does not qualify as marriage for federal tax purposes.

When an individual dies, retirement assets and IRAs pass to the beneficiary of the account. Once those funds are withdrawn from the IRA, the funds are subject to income tax. However, certain rules allow the beneficiary to delay paying the tax. A surviving spouse has more options than any other beneficiary in regards to a spouse’s IRA or qualified retirement account. They can either: 1) roll those assets into their own IRA; or 2) put the assets into an inherited IRA. By rolling the retirement account, the assets will be treated under the same rules as the surviving spouse’s IRA. For example, if the surviving spouse is under the age of 59 ½ years, the rollover funds will be subject to the early withdrawal penalty of an IRA unless one of the exceptions to the early withdrawal penalty is met. The benefit is that the surviving spouse is not required to make yearly, taxed withdrawals from the IRA. The second option is that the surviving spouse can choose to treat the inherited IRA funds as an “inherited IRA.” This generally requires annual distributions to be taken based on the surviving spouse’s life expectancy. A spouse under the age of 59 ½ may choose this option because the 10% early withdrawal penalty will not apply.

The IRS has taken the position that if same-sex marriage is valid in the state where the ceremony is performed, then for federal tax purposes the couple is married. For example, if a couple is legally married in the State of New Jersey, but then moves to a state that does not recognize same-sex marriage, the couple is considered married for federal tax purposes.

An important change has also occurred with respect to who can be the beneficiary of a qualified retirement plan. The Department of Labor has stated that under federal law spouses are automatically the beneficiary of a qualified retirement plan, like a 401(k). If the 401(k) owner wishes to name someone other than his or her spouse as the beneficiary of the 401(k), the owner’s spouse must sign a written waiver to waive his or her rights as beneficiary. Without this, the plan will automatically pay the benefits to the surviving spouse- even if the owner named another beneficiary.

It is important to speak with a tax advisor in order to determine the best option for a surviving spouse, when naming beneficiaries of retirement plans and when receiving qualified retirement or IRA benefits. Most people assume that rolling the funds into the surviving spouse’s IRA is the best choice. Generally speaking, this is the best choice for most people. However, it is not always the correct choice and it can have a major impact on the tax and penalties that the beneficiary pays to the government.