May 20, 2021
Five Divorce Settlement Pitfalls to Watch Out for, No Matter How Big the Estate
Attorneys say that if both you and your ex-spouse came out of your divorce thinking you gave up a lot, your settlement was probably fair. Maybe, but often your settlement’s full results appear clearly only after you live with them for a while.
Here are five divorce settlement pitfalls to watch for.
#1: House Poor
People don’t like being uprooted and often hesitate to inflict change on children who may already be upset from the divorce. Others are seriously attached to their house and likely invested a lot of work in it over the years. Nevertheless, many of the recently divorced ultimately find house payments difficult and the house itself difficult to maintain alone.
Your house may also suddenly be too large and, depending on the situation, can produce a huge and unexpected taxable event, such as capital gains, when you sell it.
All too often divorcing people focus on short-term issues and benefits rather than considering the long-term effects of financial decisions. Some are so eager to end the marriage that they don’t even want to discuss the benefits and drawbacks of their decisions.
Money decisions amid emotional turmoil almost always come with obvious plusses and hidden, eventual minuses. For example, if you keep the house and the equity but give up a substantial equal amount in a retirement plan account, you risk missing out on investment-return gains in your retirement accounts and lose that amount of savings for your retirement and your future.
If you have to refinance the house to pay some of the equity to your spouse, you may run into cash-flow problems – essentially trading retirement savings for, perhaps, equity in a home that you may ultimately find too expensive to keep.
Always consider the long term and the likely what-ifs.
#3: Real Costs
Maybe you simply have to keep that rental home. Or maybe you want your favorite investments in the settlement. You’re likely looking at the current value of the investment, without considering costs of liquidation.
For example, if you receive the rental home and eventually sell it, you might pay capital gains and depreciation recapture, a sort of past-due for tax breaks you take for wear on the property over years, which can amount to a sizable tax bite. You may also pay realtor fees and general sales expenses.
Always calculate the cost of eventually selling or disposing of an asset that’s part of a marital settlement.
The major goal of some divorcing couples seems to be revenge at any cost. These people appear unable to speak civilly to each other, much less able to discuss differences and mediate issues. Sometimes they actively work to undermine each other, stall, and engage in other bad behavior.
Many not only create a poisonous atmosphere but often ratchet up attorney fees. Family law attorneys often charge more than $350 an hour, may want a $10,000 retainer (renewable when depleted, naturally) and charge you 15 minutes of billable time for reading one short email.
Sometimes attorneys also engage other experts, such as business valuation specialists, pension evaluators, certified public accountants, investigators and career and vocation evaluators, among others. Fees can mount up.
If you’re willing to be reasonable, maybe try mediation. If that fails, at least try to not fan the flames and instead listen to the practical advice of your attorney. Why break the bank?
#5: See Only One Piece
A divorce settlement is often a large puzzle with lots of pieces. People commonly look at one or maybe two areas, but not the entire picture.
For example, you and your ex can trade the child exemption on your tax returns in different years. Having a child one extra day a year may allow you to claim head of household status when you file income taxes, potentially a considerable saving. You may also want to receive more maintenance (alimony) and less child support – without realizing that alimony incurs income tax.
Much like when you decided to divorce in the first place, look at your settlement agreement as a whole. All parts need to work together to help you thrive in the near-term as well as in your future.
Talk to Your Financial Planner
Finally, make sure you talk to your financial advisor in order to help you avoid these settlement pitfalls and others. Your financial planner can also help ensure your new financial plan is consistent with your new circumstances.