Breaking Up is Hard to Do:
Long after the wedding bells have faded, you may know someone who has come to a fork in the road and has decided to go in a different direction than his or her 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 grows deep roots as a family is born and grows. And while love is not always about money, divorce certainly can be.
Whether there’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 tough and complicated by emotional issues.
Although escaping the emotional toll that a divorce can have is not possible, it is not in a person’s best long-term interests to make or avoid decisions that will impact the future well-being because of emotion. To avoid being a financial victim and starting one’s new life on the wrong path, there are steps that can be taken before divorce is made final. It’s best to make these decisions as dispassionately as possible using professional resources whenever possible.
Individuals considering a divorce should assemble a team of qualified professionals who can advise on the legal, tax and financial impact of various proposed divorce settlements.
Here are some tips to consider:
1.) Don’t become a financial victim. If you suspect a spouse is planning a divorce, make copies of important records and notify creditors, banks and investment companies in writing.
2.) Don’t prepare an inaccurate budget. Individuals are usually required to produce a budget for temporary maintenance (aka Pendente Lite). But through oversight or inaccurate record-keeping, this invariably leads to problems when they find that they are having trouble making ends meet with the court-approved maintenance based on the budget provided. It makes more sense to bring in a qualified financial professional at this stage to help in preparing the budget.
3.) Don’t try to use the courts to punish a spouse. In most states, equitable distribution is the basis of settlements. Hiring a combative attorney or ignoring other options like mediation or Collaborative Practice will be costly and toxic to post-divorce family relationships 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 proverb says: the enemy of my enemy is my friend. Both parties will be impacted by taxes. With careful planning ahead of time, this can be minimized. If assets need to be sold or qualified plans prematurely withdrawn, this may increase the tax bill while reducing assets to live on post-divorce.
A 50/50 split may sound fair. But the bottom line is the share of marital assets each gets net of the tax man.
5.) Don’t use a divorce lawyer as a financial planner, accountant or therapist. At rates in excess of $300 per hour, it’s easy to rack up big bills and not get the specialized advice that other professionals can offer.
6.) Don’t forget to insure the settlement. The premature death or disability of a spouse means lost support, maintenance or help paying for college tuitions and health insurance.
Make sure that life insurance names the spouse receiving support as the owner of the policy. This way if the spouse who’s paying for the policies stops paying the premium at least the beneficiary/owner will receive notice and can take legal steps to deal with the breach.
7.) Don’t keep the marital home if it’s not affordable. Too often couples will fight over who keeps the marital home. While there may be sentimental value or legitimate concerns about uprooting kids from schools, it may not make financial sense to keep the house. After all, real estate is a low return asset (and has in fact been negative in recent history) while the mortgage, taxes and maintenance expenses can be a drain on post-divorce budgets. It usually makes more sense to sell the property while still technically a couple to get the maximum exemption of capital gains ($500,000 above cost basis) and split the proceeds to buy or rent another place.
8.) Don’t forget to change beneficiaries. Forgetting to delete and change one’s spouse from qualified plans or insurance policies, unless required by the settlement agreement, could result in benefits or assets passing to someone the divorcing couple does not want to receive them.
9.) Don’t forget to close or cancel joint credit cards. To avoid problems its best to close credit cards to any new charges pending the final divorce. This will avoid the temptation of one spouse running up charges.
10.) Don’t agree to a settlement without having a QDRO in place. Whenever a spouse has a qualified plan (ex. 401k or pension) 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 which are governed by beneficiary designations). This is sometimes an afterthought but is critical. It’s a good idea to watch the language in these orders. If not worded correctly, it could delay when a spouse will be eligible to start receiving benefits or it could lead to investment decisions that may be reckless or detrimental to the spouse’s retirement interests.
There are several methods for valuing pension or retirement benefits. This is often overlooked by time-starved divorce attorneys or court personnel. Use a financial professional trained in these techniques to make sure the analysis of the settlement is done properly.
And make sure that attorney drafting the wording of the QDRO allows the beneficiary of the pension or retirement account to be eligible for beginning receipt of benefits at the earliest possible time under the qualified plan’s rules. Otherwise, a beneficiary spouse may need to wait until the other account-holder spouse retires which he/she may choose to delay because of need or out of spite. Some administrators will segregate the portion for the beneficiary spouse so it is a good idea to make sure that funds are invested appropriate to the beneficiary’s age and risk tolerance and not simply held in a low-interest money market account.
11.) Don’t underestimate the impact of inflation. Without proper help in reviewing settlement options or preparing a post-divorce plan, it is easy to forget that the lump sum received today may look like a huge sum but may be inadequate for inflation. Whether for college tuition, medical care or housing, inflation can take a big bite out of one’s budget and resources.