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Sunday, April 21, 2024

How to financially prepare for a divorce

How to financially prepare for a divorce

Key takeaways 

Breaking up is hard, and it can come with significant financial consequences. Organizing your finances early can help avoid problems later in life.

06.28.2022

Financial professionals often recommend making money decisions when you’re calm. Unfortunately, divorce is one of those life events when you may be forced to deal with important money matters under a lot of stress. There’s no easy path, but it may help to compartmentalize your emotions and try to keep them separate from your financial plan.

Broadly speaking there are two financial components to divorce: dividing your marital assets and de-coupling your finances going forward.

How to split your assets in a divorce

How you divide your assets will be partly determined by state law. Some states have so-called community property laws, which require assets accumulated during a marriage to be divided 50/50. Those assets could include real estate, savings accounts, retirement accounts and businesses owned by you and your spouse.

Other states use a system called equitable distribution, in which a judge determines how assets are divided based on many factors. For example, if one spouse ran the family business while the other maintained the family home, a judge might decide the business will be split 60/40.

Of course, non-liquid assets like a home or business can’t be readily split, and that’s where things can get tricky. If one spouse wants to stay in the family home, for example, they’ll need to refinance the mortgage in their name and buy out the other party. If that’s not possible, the couple may be forced to sell the home, pay off the mortgage and divide the proceeds.

Financial checklist for divorce

 


How to decouple your finances in a divorce

Retirement and other investment accounts

Even if your state doesn’t dictate how qualified retirement accounts are divided, many plan sponsors require splitting accounts in a divorce. This is typically done with a qualified domestic relations order (QDRO), which is filed with the court in accordance with the terms of the divorce settlement. Once the order is filed, the funds can be rolled over penalty- and tax-free into separate retirement accounts. They can also be liquidated, although doing so may come with penalty and tax consequences depending on your age and income.

If you have investment accounts outside of 401(k)s or IRAs, they are usually liquidated, and the funds divided — after you and your spouse pay any capital gains tax you may owe.

With all types of investment accounts, it’s important to update your beneficiaries after a divorce — for example, removing your ex-spouse and instead naming your children. The updates can usually be done online in a matter of minutes. However, you may need to show your divorce order to the plan sponsor before removing an ex-spouse as beneficiary.

Bank accounts

With joint checking or savings accounts, it’s wise for you and your spouse to close the accounts together, then move the cash into separate personal accounts. Some people are tempted to unilaterally withdraw half the cash after filing a divorce petition, but doing so could complicate negotiations and might even be prohibited in your state.

Credit cards and loans

Close all joint credit cards and remove your spouse as an authorized user from any accounts you own solely. As for any remaining card debt, state rules vary, and a judge will weigh in on who’s responsible.

As with your home mortgage, a joint car loan must be refinanced in one spouse’s name — or the vehicle can be sold. Student loans usually remain the responsibility of the person who took them out.

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