Episode 10: Divorce and Your Finances

June 8, 2023

Episode Transcript

 

Welcome to EWA’s Finlyt podcast. EWA is a fee -only RIA based at Pittsburgh, Pennsylvania. We hope all listeners of this podcast will benefit as we deep dive into complex financial topics that we will make simplified for you.

And we hope that this really serves as a catalyst so that you can make the best financial planning decisions for your family and also save time. Today, we are going to be talking about a follow -up from our topics.

If you’re married on finances, eight topics we discussed, we’re going to now talk about the flip side. If God forbid, you are getting divorced. What to expect? So we first want to start this off with saying, if you have a prenuptial agreement or other things already in place, this wouldn’t apply to you for the general pocket money and the population who doesn’t have an agreement in place is in a marriage and is now in the unfortunate circumstance of getting divorced, we’re going to break down from a financial advisor’s perspective what happens, what the timeline is, and what the dos and don’ts are.

We are not attorneys. This should not be taken as legal advice. We would recommend that you hire an attorney if you’re going down this path to represent you. But we found a lot of perspective because we’ve helped a lot of clients make this transition or work with clients after, because of this transition that’s been occurred, where clients are looking for a new financial advisor.

So, Stephanie, let’s first talk about, if someone’s headed down this path, it really breaks down to there’s a lot of uncertainty and a lot of unknown. So what would you say are some of the biggest factors that a newly divorced person should be looking at?

Right, so a person who’s contemplating divorce or early on in divorce, they’re going to be looking at the effects of any potential credit, debt liabilities that were accrued during the relationship. that might be left over, how they’re going to deal with those.

Subsequently, the same thing around assets, cash, anything that was accrued during the relationship on the positive side of the balance sheet. We talked about this in the previous podcast as well, but echoing changes to your tax status.

If you have kids, that’s a really big consideration because you still have the expenses associated with the care of those children and custody arrangements, child support potentially, spouse will support potentially, as well as who’s given those dependents on their taxes.

So quite a bit. So maybe we tackle this kind of in the same order that we talk on the last podcast. So let’s talk about credit debt liabilities that were accrued during the relationship, how that can really be an effect on the finances now.

Clients have gone down this path. Generally speaking, both sides will have to come up with a balance sheet. So a balance sheet, what’s called the date of separation. And then after the date of separation, it’s still tracked.

But again, this is not legal advice. It’s different state by state. But you’re going to have this balance sheet that is going to look at every asset you have and every liability you have. And if your incomes are generally speaking, 50, 50, like if the husband’s making 200 and the wife’s making 200, and there’s going to be a 50 -50 child custody situation, generally speaking, the assets from marriage are going to get split 50 -50.

And in some cases, we’ve seen if there’s a breadwinner, let’s say making 300, and then the other spouse makes 100, we’ve seen this tilt to be 60 -40, where the non -breadwinner gets about 60% of the assets, and then the breadwinner keeps 40% basically with the assumption that the breadwinner would have the ability to accumulate and make up for that lost asset.

So if a debt was taken on, such as a school loan, in medical school and the debt was taken on, that’s going to be factored into that asset split as well. So for example, if one spouse has, let’s just say the total balance sheet is half a million dollars and it’s okay, it’s 250 each, it’s not that simple.

If one spouse has $200 ,000 of school loans that were taken out during the marriage, that is going to help that spouse get more of the assets because it’s not just, you just do the math, if it was a 50 -50 split, one spouse would walk away with 250, the other spouse would walk away with 250, minus the 200 of liability, which would now be theirs, solely, so that would be 50 ,000.

So that all gets taken into consideration to figure out that split, is anything that was taken on during the marriage or anything that was taken from an asset wise that was accumulated or acquired during the marriage as well.

Let’s talk about that in reference to your primary residence, and if you have a mortgage on the home that is a joint ownership, joint liability. I mean, that’s a whole separate consideration because we’re talking about an asset with an associated liability that is something more emotional as well because it’s where you spend time of your family or marriage so forth.

Maybe somebody is very tied to the home. Maybe somebody is not. And see, that’s a separate negotiation point there as to, does one person remain in the home? Do we sell the home and split the assets, pay off the associated liability?

So that’s something else to consider. Yeah, and this is all, if things are amicable, hopefully, very few are, then this all can be negotiated. Typically at the house, you look at, okay, it’s worth half a million bucks.

There’s a 300 ,000 norm mortgage on it. It would cost us 7% of the house value to sell this. So that all gets factored in. What’s the delta in equity? And if one spouse is staying in the house, then we slide the balance sheet around so that the ending result, again, is that 50 -50 split or 60 -40 split.

Right. Or. And then the other consideration there as well is typically you have to redo the mortgage to get the spouses that’s leaving Name off the house and in today’s interest rate environment, you know potentially we’ve several clients right now they’re going through divorce and you know some banks will work with them though to remove the The ex spouses name off and they can keep that 3% interest rate and and some couples we’ve seen the banks They have will not do this so they’re having to refinance from a joint mortgage at 3% to a single mortgage now at like 5 or 6% Right and actually factoring with that too is can the set spouse?

Afford to keep the house can one of the spouses I should say you know afford to keep the house on their own based on their income or was it really something that would require both of them You know to maintain You know that asset so very big consideration.

Yeah interest rate environments really interesting as well Yeah, nobody really wants to be refinancing today, so Yeah, so that brings us to so we’re assets, you know in Generalities and nothing’s in general you can expect if you’re a non -bred winner to get 50 or 60% of the assets and if you’re a bread Wonder to keep 40 to 50% of the assets, but that’s assets minus liabilities That’s splitting net worth not just assets Assets minus liabilities equals your net worth and that’s going to be Generally, you know the 40 to 50 percent or 50 to 60 percent is a non bread winner that you’re going to keep so The then let’s talk about ongoing payments Yes, so if you’re a bread winner and let’s just say you have two kids So let’s just use let’s just use some general numbers one spouse is making 300 one spouse is making 100 you have two kids Generally speaking if you want custody to be 50 50 if there’s not some Outrageous act that was done or some habit or addiction Even in the state of Pennsylvania because we’ve had clients that have said, you know, their spouse is doing this would Forget all the noise generally speaking custody is going to be pretty close to 50 50 and most judges are gonna You know realize that the kid needs both their parents.

We’ve seen that when and alcoholism, drugs, I mean, you name it, it’s still custody in general can get split. Now there’s obviously exceptions to that, but I see so much attention and name -sparing and really what happens is it just affects the kids and the parents hate each other.

If you can work this out amicably and from a financial well -being standpoint, where you’re keeping resources in split name, not handing it over to an attorney with dragging this process out for two years, the more it’s gonna be much better for your kids.

So alimony is something that gets negotiated generally, it’s based upon income. So if one spouse making 300, one spouse making 100, the alimony would get paid from the person making 300 to the person making 100.

Usually that’s a defined set of time, a couple of years, that’s again a negotiation. And once that’s said, it generally cannot be changed. So it’s important the negotiation is done really carefully because the person paying the 300 ,000, that’s not tax -aductible.

There used to be some tax benefits to it. There’s no tax benefits. So it’s literally after tax money. So to pay 3 ,000 a month, you probably have to earn 5 ,000 a month of gross income to get that 3 ,000 a month.

And then the person receiving it receives that tax -free. So that once it’s done, once the assets are done, once the alimony is done, those are done done. What is always modifiable in Pennsylvania and in most states is anything related to your child.

Child support, child custody, et cetera. So you can have an agreement where child custody is 50 -50. If one parent does something crazy, that could change. And then there’s formulas, and you can just Google these, that are going to be based upon income.

So generally speaking, a tax return could be reviewed every single year. And if the $300 ,000 income is now going to make $200 ,000, the child support payments drop. If that person has the kids at 60% of the time, the child support drops.

So the less time you have as a breadwinner, the more you’re going to pay, and the more income you have, the more you’re going to pay. Now, we’ve had some clients, and this is what we recommend, get into a general rhythm and flow where there is an amicable relationship, and there’s good communication, and the child support payment is agreed.

And it’s just kind of an agreement where it doesn’t feel like, because the breadwinner can then kind of feel penalized for making a lot of more income, and they can feel like controlled if someone’s reviewing if an attorney’s like demanding tax returns.

And we’ve just seen that’s not really if possible if there can just be stronger communication and just general agreements to make sure that the not breadwining spouse is just taken care of and has the resources to take care of the kids.

Absolutely. I mean, I will echo that just from personal experiences, that trying to keep that line of communication, making it as non -latidious as possible, is greatly beneficial to the child. And I’ve seen things structured in a number of ways where there’s a base child support.

figure, which is housing, clothing, the basics of life, and then those items that are above and beyond. Because we all know kids’ activities any more these days are extremely expensive. They’re doing more at higher costs for even at younger ages.

But some of those additional costs are split 50 -50 after a certain threshold, things of that sort, and coming to an agreement around if you are indeed having, if you have a big goal of funding your children’s education long term, how does that get taken care of?

So that could be something that’s included in that. In our experience here, how have clients handled continuing to save for their children’s education if, let’s say, 529 contributions were coming from the joint income from the bank account?

How does that factor in? Yeah. So we just literally have to revamp the financial plan as if we’re dealing with two totally separate households. So if the husband and the wife retain us after, or the both spouses retain us after the divorce discussion that had begun.

We revamp the financial plan. What does life look like with, here’s what you make, minus what money you have to pay, and what’s important, education, we agreed you’re gonna pay all of that based upon the divorce decree or the agreement.

We just have to revamp it, and then the other spouse, the same thing. We have to revamp what they’re living, what the budget is, and it’s basically like a fresh, a brand new chapter. Right. Well, let’s talk about, we talked a lot about kids.

So obviously, when we talked in our last podcast about when somebody dies prematurely, or even just an old age, you as the surviving spouse goes back to being taxed as a single person. Same thing happens in a divorce situation, where you’re married filing jointly, then you go back to filing singly.

Let’s talk about how, if you do have children, how that affects that, because you cannot split the child’s deduction. One person has to claim the child on their taxes. How do we navigate that? That’s a little tricky.

Yeah, and again, it’s part of the negotiation. It’s you could do it every other, we’ve seen it done every other year, where you flip it. The lower income spouse is gonna get a bigger tax benefit for claiming the kids, just based upon how that specific deduction works.

Alligability for child tax credits, potentially. Yep, absolutely. And so there’s, that’s just part of the total negotiation that needs to be done up front. Gotcha, great. Well, let’s talk about, again, another topic we touched on in the episode prior regarding marriage, is let’s talk about life insurance, estate, and what needs to happen then to update all of these things.

So obviously, if we go from being in a married situation to single, our wills, our beneficiaries, all of those things need to be updated. And then potentially, I think people, their thought process says, great, I’m not married anymore.

I have less to protect from a life insurance perspective. However, I don’t think that’s actually the case. Let’s talk about that. Yeah, so most divorce agreements when it all sudden done, let’s just say hypothetically, going back to that example, 240 year old.

It’s 30, 300 ,000, 100 ,000. Most likely in that divorce agreement, the person making 300 ,000 probably going to have about $1 million of life insurance that needs to be maintained, with the beneficiary being the ex -spouse until the kids reach 18.

And then vice versa, probably there’s going to be $400 ,000 or $500 ,000 that needs to be retained, where the non -Brent winner retains that life insurance until the kids are 18 for the ex -spouse as well.

So generally speaking, the life insurance is all going to be part of a negotiated part of the divorce. And then once the divorce does happen, a lot of people, they update their wills. They don’t know, well, beneficiary is always Trump at will.

So if you have your ex -spouse still named on your 401k, your IRA, which most people don’t realize this they do, if you die, all of that money that you didn’t intend going to your ex -spouse is going right there.

So generally we recommend, if you’re now at, find yourself as a divorced single person, work with an attorney. get an updated will, but also get a revocable trust in place. And the reason a revocable trust is going to be important is you have minor kids.

You have kids under age 18. And now if something happens to you, and all of your resources, you probably won’t go into your kids. But you don’t want them going to your ex -spouse. If that ex -spouse gets remarried, and now all your money is just funding their life, and maybe not the kids, maybe that’s true or not true.

But it’s going to be a thought in most of our clients’ heads. So having a revocable trust would make sure there’s a landing spot for all of your resources. You’re going to choose a trustee if it’s a mom, a dad, a brother, a sister, some kind of trusted contact that can watch over those assets until your kids are 18.

And then after that, they can become a trustee, or you can decide to make them outright beneficiaries. But I think it’s really important just to do after divorces, do a total revamp financial plan, figure out cash flow, budget, what lifestyle adjustments need to happen.

You need to do a total estate planning revamp, and make sure all of your beneficiaries are aligned so you’re not passing money off to an ex -spouse. All right. I love it. So let’s talk lastly just about any revamp, sure you need to make two, your financial plan in general.

So we talked about it from the numbers standpoint, with taxes and so forth. But let’s talk about goals and such. You were saving for joint goals. So we talked in the last episode about how potentially saving for retirement, that number increases because you have two people.

When we walk our clients through this, do we typically back some of these numbers down then? Do we find that savings needs change, obviously? Yeah, divorce is very punitive, because you’re now going from a good tax status as a married couple to now two single people.

So you’re already losing money, and you’re losing more money, and you’re going to pay some double expenses. Because now you have two houses, you have kids going back and forth. So it’s very punitive.

And you’re going to lose generally 20% or 30% at least of what you’re used to having as individuals, because even the non -profit, breadwinners spouse was used to having probably a joint bank account with that, 300 ,000 coming in.

And now you only have your 100 ,000 coming in plus the alimony and child support, which is still going to be nowhere near what you were used to coming in a joint bank account. So there just has to be a total revamp of the financial plan and fresh beginning and making sure that your money is supporting your life by design.

Because if not, you can just get into it. We’ve seen a lot of clients get into a bad mindset and get these things get dragged out for years and then all the assets that work you made that could be saved for a college or retirement ends up going to attorney fees and, you know, our fees of battles of he said, she said, et cetera.

So if at all possible, you know, think about what can I do that’s the best interest of my kids and most of the time the best interest of your kids is making sure it’s an amicable process where there’s good communication and a court system or attorney does not have to be present for you to talk to your ex -bow specifically around.

how your kids are going to get taken care of. Right. I think we just one last thought on that as well is if you’re the recipient of the support for those children or alimony or whatnot, I think you’re going to basically have a three tiered financial plan.

You’re going to have what the situation looks like right now. Alimony and child support included. And then typically that spells or alimony and whatnot will end much, much sooner, depending on the age of your child, will end sooner than your child becoming age of majority, 18.

So then when that child becomes 18, then typically child support will cease at that point. So you have a very different situation. And of course, your job could change. You could hopefully your earnings increase.

But you need to plan on those things dropping off at various points throughout that time cycle so that you’re prepared. And could be significant in terms of cash flow effect. No question. That’s I think in the money temperature and the budgeting, it’s really important to have a financial planner that understands that.

And so you’re not used to saving, just spending all that money. Then that drops off and then used to spending that. So you need to have a clear system in place for those three tiers. That’s a great point.

Well, I think the last thing that we should talk about, just I think very briefly that’s actually very, very important is oftentimes our clients engage with us as a couple. They come to us. They are either some junction in life, something’s going on where they seek out a financial advisor.

We work with these people through potentially the birth of their kids. They’re getting down the road on a life, but something happens. And we start going down this path of a divorce and separating of assets.

I think it’s super, super important to remind people that your advisor is impartial and that everything that once the assets are separate, your divorce couple, we treat that relationship 100% confidentially.

And everything’s maintained in a silo. Here’s your ex spouse and your spouse. There’s no need to seek out a separate financial advisor for the sake of confidentiality. That’s something that we take very, very seriously.

So no need to find out. another person if you’re going through this situation. We can take care of both parties. Well, thanks for tuning in. We look forward to catching you next week. Thanks for tuning in to our podcast.

Hopefully you found this helpful. Really hope this is as beneficial and impactful to as many people across the nation as possible. So hit the follow button. Make sure to rate the podcast and please share with any friends or

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