What to do with the House during Divorce?
With all the change and turmoil that accompanies divorce, many times one spouse tries too hard to negotiate to keep the house for emotional reasons without considering the long-term financial consequences. This can leave the spouse cash poor, house rich and in a major bind when their income runs out and they are forced to sell at what may be an inopportune time.
Some assume they are in a great neighborhood and can sell anytime for a premium price, but who could have predicted an event such as the pandemic? Lower interest rates are helping mitigate the initial effects, but it may still give the real estate market a sucker punch as it takes recently unemployed buyers out of the market completely, and others are paralyzed until conditions stabilize.
When it comes to how the home equity should or could be divided, there are typically three options. Each with its own set of factors to consider.
Modify the Existing Mortgage
With rates currently so low, you could consider modifying or refinancing the existing mortgage and buying out your spouse. You will, however, have to be able to qualify for the new mortgage using your own income and credit. A refinance could also be used to access cash if you have significant equity, but just remember a much larger monthly payment will be waiting.
Joint Ownership - Postpone the House Division
Many times the primary concern is providing stability for the children. This could mean one spouse staying in the house with the kids until they graduate or there is a remarriage. Another scenario would be “nesting” where the kids stay in the house at all times and the spouses alternate times living there. As you can imagine, this can get very messy emotionally and financially. The house may decline in value, one spouse may need their part of the equity sooner or there could be significant repairs that someone would have to pay for. It is rarely ideal as a long-term arrangement.
If you continue co-ownership, an agreement detailing the responsibilities of each party as well as how to distribute the proceeds when it is eventually sold would be needed.The rule of thumb is that If you are going to divide the value of an asset such as a home within a year, you should declare an actual dollar amount. If the time period will be greater than that, you should use percentages. This method offers some protection if the property value falls in the future.
For instance, if at the time of divorce you have $400K equity in a home and agree to sell and pay your ex-spouse $200K in 5 years when the kids graduate, you may be in really bad shape when the house only sells for $325 and you have to pay $25K in broker’s fees and closing costs. If instead you agree to split the net proceeds 50/50 you would get $150K instead of $100K!!
Sell the House
Of all three options, selling the house immediately is usually the easiest and cleanest. Most people divorcing are also usually ready to reduce the amount of interaction needed with their former spouse. This would have both of you concerned with making any delayed repairs, both responsible for the realtor fees and there could be capital gain taxes incurred.
How to Decide?
Will your new income allow you to afford not only the mortgage but the carrying costs - major repairs, HOA dues, lawn maintenance, etc.?
Are there less expensive acceptable options?
Will there be capital gains issues involved? What is your cost basis? Did you meet the residency requirement?
Are you going to remarry? Does your new spouse want to live in the same house you shared with your ex?
If you are still questioning which route to take, our Certified Divorce Financial Analyst® practitioner can help. Schedule your initial consultation today.
At New Path Planning we are divorce financial planners, we do not provide tax or legal advice.