Breaking up is hard:
Long after the wedding bells have faded, you may know someone who has come to a fork in the road and decided to go in a different direction from their partner.
Building a life with someone involves many things. There are the memories, friendships, family relationships and possibly children and pets. Love plants a seed that eventually takes root as a family is born and grows. And while love isn’t always about money, divorce certainly can be.
Whether it’s just a house and a retirement account or something more complex like business ownership, other investments, and stock options, unraveling a lifetime of work is difficult and complicated by emotional issues.
While it’s not possible to escape the emotional toll that a divorce can take, it’s not in a person’s best interest in the long run to make or avoid decisions that affect future well-being because of emotions. To avoid becoming a financial victim and starting your new life on the wrong path, there are steps that can be taken before the divorce is finalized. It’s best to make these decisions as level-headed as possible and use professional resources whenever possible.
Individuals considering divorce should assemble a team of qualified professionals who can advise on the legal, tax and financial ramifications of various proposed divorce settlements.
Here are some tips to consider:
1.) Don’t become a financial victim. If you suspect that a spouse is planning to divorce, make copies of important documents and notify your creditors, banks, and investment companies in writing.
2.) Don’t prepare an imprecise budget. Individuals are usually required to provide a budget for temporary maintenance (also known as Pendente Lite). But due to oversight or inaccurate recordkeeping, it invariably leads to problems when they find themselves struggling to make ends meet on court-approved alimony based on the budget provided. It makes more sense at this stage to enlist a qualified finance professional to help prepare the budget.
3.) Try not to use the court to punish a spouse. In most states, equitable distribution is the basis of settlements. Hiring a belligerent lawyer or ignoring other options such as mediation or Collaborative practice will be costly and toxic to family relationships after divorce, especially when children are involved. (For a better understanding of this option, search for Collaborative Divorce or International Academy of Collaborative Professionals).
4.) Don’t forget the common enemy: the IRS. As the saying goes, the enemy of my enemy is my friend. Both parties will be affected by taxes. With careful planning in advance, this can be minimized. If assets have to be sold or qualifying plans have to be withdrawn early, this can increase the tax bill while reducing the ability to live on after the divorce.
A 50/50 split may sound fair. But what it comes down to is the share of the matrimonial property that each gets after deductions from the taxman.
5.) Do not use a divorce lawyer as a financial planner, accountant or therapist. With rates in excess of $300 per hour, it’s easy to rack up huge bills and not get the specialized advice that other professionals can provide.
6.) Do not forget to insure the settlement. The premature death or disability of a spouse means lost support, alimony, or help paying for college and health insurance.
Make sure the life insurance policy names the spouse receiving support as the owner of the policy. This way, if the spouse paying for the policies stops paying the premium, the beneficiary/owner will receive legal action to address the breach.
7.) Don’t keep the matrimonial home if it’s not affordable. Too often, couples will argue over who gets to keep the marital home. While there may be sentimental value or legitimate concerns about taking children out of schools, it may not make financial sense to keep the home. After all, real estate is a low-yield asset (and has been negative in recent history), while the mortgage, taxes and maintenance costs can be a drain on budgets after a divorce. It usually makes more sense to sell the property while still technically a couple to get the maximum capital gains exemption ($500,000 above cost) and split the proceeds to buy or rent another place.
8.) Don’t forget to change the beneficiaries. Forgetting to remove and change one’s spouse from qualifying plans or insurance policies, unless required by the settlement agreement, could result in benefits or assets being transferred to someone the divorcing couple does not want to receive.
9.) Don’t forget to close or cancel joint credit cards. To avoid problems, it’s best to close credit cards for new charges pending the final divorce. This avoids the temptation that one of the spouses incurs expenses.
10.) Don’t agree to a settlement without having a QDRO. When a spouse has a qualified plan (e.g., 401,000 or retirement), a Qualified Domestic Relations Order will inform the plan administrator who is entitled to the asset and when. (Note that a QDRO does not apply to IRAs governed by beneficiary designations). This is sometimes an afterthought, but is critical. It’s a good idea to pay attention to the language in this order. If not worded correctly, it can delay when a spouse is eligible to receive benefits or lead to investment decisions that could be reckless or detrimental to the spouse’s retirement interests.
There are several methods of valuing pension or retirement benefits. This is often overlooked by time-hungry divorce lawyers or court personnel. Use a financial professional trained in these techniques to ensure that the settlement analysis is done correctly.
And make sure that the attorney drafting the wording of the QDRO enables the beneficiary of the retirement or retirement account to be eligible to receive benefits under the rules of the qualified plan as soon as possible. Otherwise, a beneficiary spouse may have to wait for the account holder’s other spouse to retire, which he/she may postpone out of necessity or spite. Some trustees separate the share for the beneficiary spouse, so it’s a good idea to make sure the funds are invested according to the age and risk tolerance of the beneficiary and not simply held in a money market account with a low interest rate.
11.) Don’t underestimate the impact of inflation. Without proper help assessing settlement options or creating a post-divorce plan, it’s easy to forget that the lump sum received today may seem like a huge amount, but it may be insufficient for inflation. Whether it’s tuition, medical care, or housing, inflation can take a big bite out of a person’s budget and resources.