Financial Mistakes to Avoid When Getting a Divorce

10 Financial Mistakes to Avoid When Getting a Divorce (2021)

If January is the month that you’ve decided to start your divorce, you aren’t alone. January is usually dubbed the “divorce month” since so many people end the year with clarity about whether or not they want to stay in a relationship.  If you and/or your spouse have decided to split, it’s a good time to review helpful resources and tips so that you are feeling prepared as you begin the legal process. After 15 years in the divorce industry, I’ve seen first hand how mistakes can lead to a bad outcome. I don’t want that for you. That’s why I’m sharing exactly what to do to avoid making a move that could impact your economic wellbeing. Some of these you may have heard before (although it’s good to be reminded) but lots are even more important in light of COVID-19.

1. Ignoring your credit

If all your credit is tied to your spouse, you may want to consider opening an account or credit card in your own name. Why? So you can begin to establish a credit history. To the extent possible, if you have an account (like a car loan) that your name is on (or you share jointly with your spouse), try to come to an agreement early on for how these bills will be paid. Missing payments can quickly deteriorate your credit score which is not something you want – especially if you expect to try and refinance your home or qualify to rent new space.

On the topic of credit, it’s a good idea to exchange credit reports with your spouse and/or pull your own free report to see if there’s anything suspicious or maybe even an account that you and/or your spouse forgot about. It’s always best to resolve disputes about all accounts (no matter how significant they are) NOW so it doesn’t become a problem for you after the divorce is finalized.

Related: Take Control of Your Credit During and After Divorce

2. Harping on the past instead of focusing on the solution

The quickest way to run up legal fees is by living in the past, trying to teach your ex a lesson, and/or using the system to try and punish your spouse. The system is not punitive and rarely actually ‘fines’ your spouse for bad behavior (sorry). Unless you can prove fraud (which is a very high standard) it’s really tricky to ‘get back at your spouse’ for not playing fair. Divorce is not a zero-sum game. You both can have a few ‘wins’ and the focus needs to be on crafting a solution that meets your needs. If litigation is necessary, remember to do a cost-benefit analysis before heading to court.

3. Dividing retirement benefits improperly

Most people think that a divorce agreement (even in writing and signed by the judge) is enough to divide a pension or 401k. NOT SO. Usually, an additional order sometimes called a Qualified Domestic Relations Order (QDRO), is necessary to avoid tax penalties associated with an early withdrawal (before retirement age) of benefits.

4. Relying (only) on lawyers or opinion to value complex assets

Do you have an ownership interest in a business or unvested stock related to employment? Maybe a separate property interest in a house? Does your spouse hold intellectual property like a patent? You want to ensure this gets properly valued for three main reasons:

  • You don’t want to ‘cheat’ yourself by agreeing to a value that is far lower than fair market value;
  • Your opinion (no matter how reasoned it is) or a lawyer’s educated ‘guess’ isn’t very persuasive in negotiations. Especially when trust is at issue or financial disagreements was what contributed to the breakdown of your marriage; and
  • If you do end up having to litigate, a forensic accountant or another financial professional can help you establish your position before a judge. In some cases, it’s required.
Quick tip: It’s much easier and cheaper to hire a joint neutral expert to help value difficult or complex assets.

5. Ignoring tax implications

While the IRS treats most transfers between divorcing spouses as “incident to divorce” (and therefore NON-taxable), there are plenty of instances where tax ramifications are present. Sometimes these tax issues cause you to lose money and sometimes you miss out on important benefits too. In a divorce, when you’re dividing one household into two, every penny counts!  Before signing that final judgment, make sure you have consulted with a CPA. The mistakes I see most include: (a) not realizing that your tax status is determined by your marital status on the last day of the tax year; (b) not realizing you can qualify as head of household even if you are still married; and (c) agreeing to allow your spouse to pay off his or her share of an asset over a lengthy time (think: a decade or more). You may have to start claiming some of those funds as income!

6. Not paying attention to the market

In light of Covid-19, we are seeing major financial uncertainty. The effect of Coronavirus has wreaked havoc on the economy. Some of these consequences are visible to us now (e.g. loss of job or decrease in business earnings). But there’s so much we just don’t know yet. When the housing market fluctuates, will the stock market crash? Depending on how risk-averse you are, the volatility of the market should be taken into account when you negotiate your divorce agreement. If you are agreeing to transfer some of your 401k to your spouse, consider agreeing on a percentage as opposed to an amount. That way, if the value drops before the account is divided, you aren’t stuck giving your spouse a windfall. Another example involves your family home. If you believe that your home will likely drop in value, now might be a good time to sell. Or, perhaps you wait to address the buy-out amount until you have a better idea of what the fair market value is.

7. Not getting legal advice when you need it

Regardless of what service you are using to complete and file all of your divorce forms, there are times when scheduling a meeting with a lawyer is absolutely necessary. Child support and spousal support can get pretty complicated – especially if you have a long term marriage or a child with special needs. A legal coach can help you and/or your spouse understand where you have leverage, what your best case scenario is, and what is a fair result given the circumstances. Additionally, sometimes income can get tricky. Not everyone has a W2 job. Example: Sometimes your business pays for personal expenses. In some circumstances, the funds used to pay these personal expenses can be considered “income” for purposes of calculating alimony or child support.

8. Ignoring the cost of divorce

Not everyone can afford a lawyer on retainer. Heck, even people who can, may not want to fork over thousands of dollars. Research your options. Remember, most divorces don’t happen overnight – you have time (but don’t ignore deadlines!), don’t rush to choose until you feel confident about your decision. Consider mediation if you have complicated interpersonal or financial issues but you and your spouse want to avoid litigation. Or, if your divorce is uncontested, a DIY approach might work well for you.

9. Letting emotion take over

Easier said than done. I know. I see this most often in two contexts: (1) getting too attached to assets in divorce negotiation because they have sentimental value and therefore making a bad deal; and/or (2) over-using your divorce lawyer to fight about stuff that really doesn’t matter. I mean, it may matter to you now, but will it in a year or two? You have to treat your divorce negotiations like a business deal because spoiler: IT IS. Even an amicable divorce is grueling. It’s unreasonable to think there won’t be conflict or emotion. That’s totally normal. But what you have to do is NOTICE. Being hyper-aware of where and when you are emotionally triggered can help you and your divorce coach trusted pal or lawyer plan a strategy for how you can work out an agreement without giving away the farm or letting emotion control your decisions. Sometimes it’s as simple as only negotiating in writing so you have time to process all settlement offers or having a code word that pauses divorce conversations when things get too heated.

Related: How to Keep Your Divorce Conversations Productive

10. Forgetting to update estate planning documents

After divorce, to the extent you can under the terms of your divorce decree, make sure you change your beneficiaries on your pay on death accounts and/or life insurance policies. Update your will and trust so that if you pass away, the people you want to inherit from you are protected.  Consider drafting a power of attorney so that if something happens to you that renders you temporarily or permanently incapacitated, you have a trusted person who can ‘act’ on your behalf.

Do you have anything to add? Feel free to comment below.

Comments

  1. I am not sure how to file taxes from last year. I have not been the main provider. I have worked 15 hours a week for the past 17 years. I have been married for 30 years. I filed on 9-2020. Do I file married joint or married head of household since our youngest son is a full-time student and because of covid lives with me more than half of the year.

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