Surviving Financially After Divorce Tip# 2

How to prepare yourself to deal with the financial realities of divorce – especially in today’s economy.

More often than not, the standard of living of both spouses drops in the first few years after divorce.  Why?  Because the same cumulative income and pool of assets now has to support two households instead of one.  Unfortunately, most people don’t prepare themselves financially or emotionally for that consequence.  So what can you do to better prepare yourself for this inevitability?  The answer is simple, but it’s not easy to put into practice.

Divorce is an inherently stressful process.  To alleviate some of the stress, it’s important to be proactive and in control.  Here is part #2, of the “Lucky Seven” things you can do to help prepare yourself financially for your post-divorce future.

2. Consider whether you can afford to keep the house

Here are the traditional options for the marital home:

1. One spouse stays in the house (with the children, if any) and buys the other spouse’s share by:
• Cash-out refinance
• Giving up another asset
• Property settlement note
2. The spouses sell the house during or after the divorce process and split the proceeds (Cleanest method)
3. Both spouses continue to own the home jointly even though they are divorced and sell the home at a future date.  (Not typically advisable)

In many cases, one spouse – usually the wife – wants to keep the house.  Though this might be emotionally satisfying, it usually makes little or no financial sense.  The equity in the house is illiquid, meaning it won’t pay the bills.

In today’s housing market (including Carmel Valley), sometimes the matrimonial home can’t be sold in a reasonable amount of time – or for a reasonable amount of money.  Today, many couples own houses that neither spouse can afford to maintain on his/her own, and that they cannot sell for what they owe on their mortgage.  If the house can only be sold at a loss, divorcing couples have a few options, such as:

1. Renting the house to a third party – or having one ex-spouse stay in the home and pay rent to the other until the market improves
2. “Birdnesting”: the ex-spouses retain joint ownership of the home, they also rent a small apartment nearby, and each one alternates living in the house with the kids and in the apartment on his/her own
3. Agreeing to sell the home at a loss, share the loss, and move on with their lives
4. Short-sale, foreclosure, or bankruptcy

If your Carmel Valley house is “underwater” – meaning that you owe more on their mortgage than your house is worth – here are a few questions you should ask yourselves before putting the house up for sale:  (Under the newly created HARP program, there could potentially be refinance options even when your home is “underwater”).

1. Who is responsible for making up the difference between the sale price and the amount owed on the mortgage?
2. If you don’t sell it, does the party not keeping the house get compensated?
3. Where does that money for questions (1) and (2) above come from?

If one spouse wants – and can afford – to keep the house, that spouse should pre-qualify for a mortgage before the divorce is final.  Sometimes, a divorcing couple will decide that one spouse is going to keep the house.  They take the other spouse’s name off the deed – and then the spouse who wants to keep the house gets turned down for a mortgage because he/she doesn’t make enough money to qualify to refinance in his/her name alone.  The spouse who is leaving the marital home ends up being on the hook for the debt, has no reciprocal asset, and can’t qualify for his/her own mortgage because he/she doesn’t make enough to support both mortgages.

To qualify for a mortgage, most conventional lenders use credit and debt to income ratios.  Many use a credit score system to qualify applicants; a credit score is based on payment history, amount of credit owing, length of time credit established, number of recently opened credit accounts, and types of credit established.  Lenders generally use two different ratios to analyze credit worthiness.  Generally speaking, here’s how they work: (Consult with a mortgage professional as mortgage guidelines change frequently).

1. Housing Ratio = Total Monthly Housing Payments (including taxes and insurance) divided by Total Gross Income.  This ratio must be 28% or less.
2. Total Debt Ratio = Total Housing Other Debt divided by Total Gross Income.  This ratio must be 36% or less.  (Often with compensating factors these ratios can exceed the traditional limits).

In order to qualify for a conventional mortgage, an applicant must have an acceptable credit score and debt-to-income ratios.

Stay tuned for next week’s article for part 3 of the “Lucky Seven.”  If you missed part# 1, please click HERE.

 

I am a certified divorce financial analyst with clients from all over San Diego.  I specialize in working with attorneys, mediators, individuals and couples, helping them navigate through the morass of the divorce process.  My expertise lies in understanding the special tax and financial issues that can plague divorce and I work to help clients attain financially fair and equitable settlements.  I strive to help clients avoid having long-term regret over decisions made during the divorce process and my goal is for clients to be successful in the new phase of their life.

After my own experience with divorce & the loss of my father a short time later, both emotional and financial fears set in.  I had become unmoored from the life I knew and was now in a circumstance that created uncertainty.  While paralysis in the face of challenge can be common, it can also be debilitating.  I had a desire for the comfort that comes with clarity of action but was unsure what to do.  I believe it is imperative clients focus on what they have and how to best utilize their resources instead of focusing on how their life used to be.  Once they do so they often realize that although life may be different than it was before, it can often be even better.

I present to groups and am the founder of “Women and Wealth” workshops held in Rancho Santa Fe and Santa Barbara.  Although I work in an often stressful field I manage to find time to decompress while enjoying my hobbies of traveling, surfing, golfing, dancing and volunteering with the San Diego Nice Guys.  One of my long standing loves is my equestrian hobby.