Dividing Massachusetts State Pensions in Divorce. Avoiding the Most Harmful Mistake.
Dividing MTRS and MA State Pensions in Divorce
Exposing the Financial Harm Resulting from Flawed Coverture
One of the most complex and often-misunderstood assets to divide in divorce is the Massachusetts State Pension, which includes the Massachusetts Teachers Retirement System (MTRS). Before negotiating the terms surrounding these assets, it is crucial to understand the many unique and sometimes-limiting features of Massachusetts State Pensions. For a divorcing couple where one (or both) has accumulated 10-plus years of credited service under the state system, the Pension may be one the most valuable assets in the divorce. Mistakes made when preparing language to divide future pension benefits, can have life-changing financial implications.
The most common and financially harmful mistake made when dividing State pensions is the failure to properly apply and define the coverture formula (explained later). To better demonstrate the financial magnitude of this mistake, I have included a sample divorce case with illustrations (attached). Below are some important definitions to know before you read on.
For this discussion, I will refer to the spouse who owns the State Pension as the “Participant” and the spouse who has been awarded a share of the State Pension as the “Alternate Payee”.
What is the Prospective Coverture Formula?
The prospective coverture formula or “coverture fraction” is a method used in divorce to identify and equitably track the “marital portion” of an asset (typically a pension) when the final benefit or value is yet to be known. It is used when there is a portion of the asset that was earned before the marriage and/or will be earned after the marriage. The fraction looks like this:
Numerator = number of months of service earned while married
Denominator = total number of months of service at retirement
What is the Purpose of the Prospective Coverture Formula?
The primary purpose of the prospective coverture formula is to provide inflationary protection to the Alternate Payee. Put differently, it allows for the portion of the pension awarded to the Alternate Payee (at time of divorce) to grow as the total pension grows - but only in relation to the marital portion. If this feature is not clearly articulated, the Alternate Payee can end up with a significantly lower monthly benefit at retirement.
What factors determine the final pension amount for State pensions?
The actual monthly pension payment amount that will be received at retirement is determined using the following variables:
- Age of participant at time of retirement (Higher age = higher pension credit)
- Total years of Credited Service (More years = higher pension credit)
- High-3 Average Salary (This is typically the last 3 years of employment but can be any 3 consecutive years)
- Employment Group Number (For state workers only not MTRS)
Sample Case Profile – Mary & Stan:
Mary and Stan are getting divorced. Mary is 50 years old and has been married to Stan for 22 years. Mary has been a full-time teacher for 18 years and has a vested interest in the MTRS (Massachusetts Teacher’s Retirement System) pension. Her high-3 average salary is $70,000 at time of the divorce and she has plans to work for an additional 10 years and then retire (at age 60). They have agreed that Stan will receive 50% of the pension that was earned during the marriage.
How should “50% of the pension earned during the marriage” be calculated? This is common language used in separation agreements but it is not specific enough. The interpretation of this language/formula will determine the financial impact to Stan forever. There are four possible methods to use. For a consistent comparison of the four options, we will assume that Mary does in-fact, go on to work an additional 10 years as a teacher after divorce, and at the time of her retirement, her high-3 average salary is $80,000.
Click here to view the financial impact to Stan under the options below.
Option 1 – Prospective Coverture Formula
Mary’s final pension (Option A benefit), based on her age (60), years of service (28) and high-3 average salary ($80,000) is $3,733/month (determined using the MA Pension Estimator). The marital portion as determined using the coverture fraction, is 64.29% (18 years of service earned during marriage divided by 28 years of total years of service). The marital amount is $2,399.79 (64.29% of the $3,733/monthly payment). Using the coverture approach, Stan’s award will be $1,189.89/month (50% of the marital amount) and Mary will receive the remainder, which is $2,533.11/month As illustrated, one can see that Stan’s ultimate award is just 32% of the full pension which is exactly proportionate to the prospective coverture approach. This is an equitable approach that provides inflationary protection to Stan.
Option 2 – Freeze Salary
Some attorney’s use a formula that utilizes Mary’s high-3 average salary at time of divorce to determine the marital portion (essentially “freezing” that figure and ignoring any increases in her salary). In this instance, the marital portion would be based on a calculation that uses $70,000 as the high-3 average salary (as opposed to $80,000) at Mary’s retirement for purposes of establishing Stan’s benefit. Even though Mary’s actual Option A pension will be $3,733/month, Stan’s portion is based on a pension estimate as if it were $3,266. The results produce a lower martial portion and lower award to Stan (just 28% of the full pension).
Option 3 – Freeze Years of Service
This option is like option 2 above except that here, the years of service are “frozen”. In other words, at time of retirement, Stan’s portion will be based on an estimated final pension payment that uses 18 years of service (service years accrued during the marriage) rather than Mary’s actual final total of 28 years. As you can see from the illustration, this formula results in a monthly benefit that is $428/month lower for Stan as compared to his benefit under the true coverture method. This particular method is a very commonly used approach, which is likely due to the fact that this is same language used in the sample DRO published by the MTRS*. This is precisely why model DRO’s should not be used verbatim.
Option 4 – Freeze Years of Service and Salary
This option is the most restrictive and harmful to Stan as it utilizes both years of service and average high-3 salary as of the date of divorce. By completely “freezing” the marital portion as of the date of divorce, this method will prevent Stan’s award from proportional growth that is attributable to the pension itself (still a marital asset). As one can see, this formula produces the lowest monthly benefit to Stan at Mary’s retirement. In-fact, Stan’s portion under this approach is less than half of the award he would have received using the traditional coverture approach.
As this sample case illustrates, the impact of the formula utilized in the divorce agreement can have a major impact to the final benefit for the Alternate payee. In my experience, it is extremely rare that an adequate discussion about this dynamic ever takes place during the agreement process. If you are the Alternate Payee in a divorce or an attorney who is representing the Alternate Payee, it is extremely important to understand the impact of all proposed methods of division. The prospective coverture approach is a fair and equitable formula to use when dividing assets that will be divided in the future. Deviating from prospective coverture can result in unfair financial damage to the Alternate Payee. Be sure that agreement language is very specific so that alternate interpretations are not possible.
This opinion paper covers just one of many misunderstood features of State pensions. Other equally challenging concepts to address when dividing State pensions include:
- Survivorship protection
- Pre–retirement – Death of Participant before benefits commence
- Post-retirement – Who bears the cost of Option C of Option B coverage
- Impact of remarriage by Alternate payee
- Impact of remarriage by the Participant
*The MTRS has published a sample/model DRO that is often used as a guideline for attorneys and drafters. While their model does include a sample formula similar to Option 3 in this illustration, MTRS also clearly states that the “parties have the flexibility to establish their own formula” and further that “As in the example above, the formula for determining the “marital” portion” can be based on factors, such as age and salary, that are determined after the date of retirement”.
- Adam Waitkevich, Certified QDRO Specialist, CDFA, ADFA is the President and Founder of Divorce Financial Solutions, LLC.