By: Jeff J. Horn, Esq.
You’re on the precipice of a divorce. Maybe it has been a long time coming or comes as a complete shock to you. Neither your mindset nor your finances are ready for the shock they will both endure through the divorce process. You can easily switch into fear mode. Making decisions based upon fear and scarcity is a natural human reaction to extreme stress. You will succeed when your mindset switches to abundance and the prospect of a big future, and your fear turns to planning based upon the reasonable options that lie before you. Let’s take a walk through some of the common threads binding divorce and finances.
The Marital Home
Your home is so much more than an investment. It is the place you live; holds the beds your children sleep in and the vortex of much of your life. A safe and healthy marital home represents stability and certainty, especially during your divorce process. The law takes a cooler view of the marital home.
So many clients have expressed to me the strong reasons that they must stay in the marital home. Oftentimes, those reasons are child centric. No reasonable person wants to disrupt their children. Divorce disrupts children. Even the child that pushes a parent toward the divorce is in pain. A move or multiple moves can add to that feeling of disruption. No one can deny the potential pain a child may endure subsequent to divorce and relocation from the marital home. Indeed, when one or more children are close to high school graduation, the law is particularly open to the idea of holding onto the house to allow a child to graduate from high school out of the family home, with their friends and classmates, in the hope that success in school will propel them to a big future.
Otherwise, the marital home is looked upon as an asset that can be divided and distributed. Let’s discuss the equity in your home. Equity is the market value of the home less the debt attached to the home, such as a mortgage or a home equity line of credit. The market value can be established by agreement of the parties, comparative market analysis from a reputable estate agent, or through an appraisal report prepared by a licensed appraiser. The market value minus the debt equals the equity. The equity can be unlocked through multiple means. The simplest way is to list and sell the marital home, pay off the mortgage and related debt, and allocate the proceeds by agreement. The second way is to fashion a buyout where one spouse pays the other spouse’s equity in cash or in other ways, move the responsibility for mortgage debt into the buying spouse’s name, and the selling spouse is free of any obligations. The third way is trading equity for something else of value. An example may be most helpful here. One spouse may have invested funds and would like to hang onto those dollars. The other spouse desires to keep the marital home. The spouse with the invested dollars leaves his or her equity behind and the spouse wanting the marital home leaves the other’s money untouched. Once everyone agrees on the values and debts associated with the assets it is a matter of mathematics. Sometimes spouses will trade house equity, which is usually tax-free for retirement assets, which may be taxable. In those circumstances, your lawyer or accountant may need to help you trade apples for oranges. $50,000 in tax-free house equity may be the treated as $65,000 in a taxable retirement account.
Proceeds from the sale or refinance can be used for lots of things including simply dividing the funds between the two spouses, paying off debts, or pre-paying support such as alimony. The marital home operates on at least two tracks during divorce – a place for the family to live now and going forward, and a highly flexible device to resolve financial issues incident to divorce.
You may have accumulated some debts. Besides the debt associated with the marital home, automobile loans, student loans, and credit card debts are commonly addressed as part of your financial resolution. On the surface, debts may seem simple and straightforward. In divorce, they rarely are. It is common that one spouse claims lack of knowledge of a pile of debt. This can spark a lot of acrimony when it comes time to figure out equitable distribution. Picture yourself as the spouse not eager for the divorce and now shocked to learn that your spouse has taken out personal loans and credit card debts in the tens of thousands. Further, you are told, off the bat that debts are divided 50-50. This sounds frustrating and bewildering and would spark a reaction in anyone. Try to stay cool. The facts will matter as will the cost of the dispute. The law starts off with the notion that assets and debts accumulated during the marriage are marital and are therefore to the benefit and detriment of both spouses. Simply stated, you get the good stuff and you get the bad stuff. If one spouse is taking the asset associated with the debt, that spouse generally takes the debt. Furniture purchased with the store card? The spouse that takes the furniture takes the store card with the debt. Car loans typically go with the car and with the spouse taking the car. Student loans generally go with the spouse that earned the education. All these rules that I am sharing are fluid based upon your circumstances.
Back to the spouse claiming a lack of knowledge of debt. Lack of knowledge by itself will be no excuse for avoiding responsibility for the debt. What was the debt used for? If that was utilized for clearly non-marital purposes, such as conducting affairs or for the operation of a business that one spouse will retain, the debt may fall outside of the parameters of equitable distribution. The facts will matter. If the debt arises out of questionable decision-making and questionable spending, they may form reasons for getting divorced, but it is unlikely that a spouse will avoid liability for debts even if the other spouse made some questionable decisions.
Courts are reluctant to put the toothpaste back in the tube as it relates to marital debt. The debt exists and will be dealt with as part of the financial resolution of your divorce. Be ever mindful of the risk of creating a huge pile of debt in the form of legal bills and forensic accounting bills and costs to copy and ship archived credit card statements in the hopes that a smoking gun exists to push most or all responsibility for the payback of marital debt from one spouse to the other. By agreement, many times, one spouse will agree to take on certain debts because it is the right thing to do and the economics favor that result. One spouse may be able to compromise certain debts simply because it is the only way to get the case resolved and to stop accruing a bunch of new debts.
You may have operated your life comfortably on existing cash flow. It is typically easier for two to live under one roof and meet expenses then it is for two or more to live under two separate groups. Separation and divorce will create the need for two dwellings. That is a new stressor on cash flow for most families. You will also be feeding other mouths in the form of lawyers, accountants and perhaps mental health professionals. Your assets are locked up and your debts are yet to be allocated and consolidated. Making decisions in the short run can significantly impact how long it takes to recover financially from the divorce. The faster both spouses shift their mindset to a range of reasonable and foreseeable options, the faster they get to good short-term decision-making. Cash flow is about good decision-making.
In the short run, you may need to accrue some debt in order to leverage the divorce case and unlock liquid assets. It is common that litigants utilize home equity or credit cards to pay for professionals and to make decisions regarding unlocking equity from real estate investments, businesses or other assets. Budgets matter. Both spouses need to maintain while going through the divorce process. One spouse cannot have all of the cash flow and leave the other destitute. Figuring out a reasonable budget is critical for both spouses early on and is the source of much early divorce litigation. The term pendente lite motion is one you may learn as part of your divorce. This is where spouses present their financial picture and their arguments to the courts via motion, to determine what support should be paid at the beginning of the case and while the case is pending. These motions tend to be very acrimonious and full of accusations. When the court makes a great decision on pendente lite support, it is far easier to resolve your case. When the court’s decision is far different from the support that will eventually be paid, the case tends to become more difficult. Giving one Spouse more support than will be granted at the end of the case were agreed upon at the end of the case can make the receiving spouse very reluctant to take less through agreement.
When cooler heads prevail, both spouse’s budgets are lined upside-by-side and the aggregate family cash flow is spread across those budgets to meet the family’s basic needs. Some families have an easy time meeting budgets and maintaining the marital lifestyle, including regular savings, retirement savings, and vacations. Some will buy cars and make all of the normal decisions they would during times of good cash flow. Other families may find that there is not enough cash to go around. You, or the judge will make decisions as to what dollars will be allocated to what expenses. Food, shelter, medical insurance, medical expenses and transportation are the first expenses that need to be addressed. Education falls near this first critical category. Sports and entertainment are further down the list. You may have had a plan to pay down debt prior to the initiation of the divorce. That plan may be stalled during divorce. You may have had a plan to save certain money for investment and retirement, that plan may be stalled due to cash flow constraints.
You may also begin unlocking assets such as home-equity, utilizing investments to meet short-term cash flow needs or borrowing against a life insurance policy. The main role of cash flow during the divorce process is to meet everyone’s needs as fully as possible and create the setting for a fair and reasonable resolution for both parties.
Savings and Investment
You have been vigilant and diligent to save money in a 401(k), a 529 plan for the children or an IRA. You have almost met your objectives. Or, perhaps, cash flow and other life events have impacted your savings and investment plans. For some, the unwelcome divorce is particularly painful because of the splitting up of savings and retirement assets. You have worked 25 years as a teacher or police officer or in another pension earning profession only to find that upon divorce, you need to divide that asset evenly. That reality can sting.
Perhaps your spouse had ample opportunity to save and invest but declined to do so, instead spending money on frivolous expenses or even incurring debt. When you are told by the divorce lawyer ,mediator, or judge that you simply have to divide your savings ,retirement and investment accounts 50-50 because you have been married for such a period of time, that reality can be painful and bewildering. For retirement accounts you may also need to pay for the preparation of a court order known as a Qualified Domestic Relations Order or a court order acceptable for processing. The preparation and finalization of these orders can take on a life of their own.
The law begins with the idea that assets accumulated during the marriage including savings, investment and retirement are subject to equitable distribution. The length of the marriage is viewed as of the date of marriage until the date a Complaint for Divorce is filed. Notice I am not saying the date of separation. Parties are always free to negotiate start and end dates but this is one of the few simple periods of family law. Assets accumulated before the marriage remain the asset of the spouse that had the assets before the marriage. Assets accumulated during the marriage are marital and subject to equitable distribution. The spouse seeking to avoid distributing an asset such as savings or investment account, has the burden of demonstrating why that account should not be distributed.
Savings and retirement assets are typically distributed at the end of the case. They can, however, be leveraged during the case to meet short-term expenses, level out cash flow or meet the cost of the litigation. You have earned and accumulated these assets. They may need to be divided incident to divorce. Use the good judgment and objectivity to make good decisions about dividing the assets that you utilize while accumulating them.
Mindset and finances may work against you at times during the divorce process. Regardless of the complexity of your financial picture, if you control your mindset toward a big future for yourself and your family, the finances will resolve themselves with the assistance of counsel, accountants, and sound financial advice.