Nobody likes talking about their debts so it’s no wonder that figuring out how to handle the different debts in your divorce is often one of the most difficult, contentious parts of divorce negotiations.
All too often, one party in the marriage doesn’t realize the extent of the debts or there’s one spouse who’s a spender and one a saver. Sometimes, both are well aware of the debt but unconcerned: life was grand, the money was coming in, and borrowing for a second car or an overseas vacation was just part of the plan. It was all going to work out in the end.
Except of course when it doesn’t, except when it ends in divorce. And that means having to confront the reality.
Who’s debt is it really?
How should it be divided?
Can it be paid off? With what?
How all that happens depends on the debt – credit card debt is different from car loan debt is different from student loan debt is different from 401(k) debt. Ugh.
It can be complicated but you have to start with understanding the basics. That’s what this Conversation About Divorce is about. My expert for this topic is financial guru Lili Vasileff. Her latest book (available on Amazon) is Money & Divorce: The Essential Roadmap to Mastering Financial Decisions. Listen in below (email subscribers click here) or keep reading for a synopsis.
Get Your Credit Report
Vasileff and I agree that the very first thing to do with your financial preparations is to run a credit report on yourself. She recommends getting one from all three reporting agencies (Equifax, TransUnion and Experian) at the same time.
Hopefully, they’ll be nothing in your report to surprise you but many of the people I work with discover inactive, forgotten accounts from long ago and now’s a good opportunity to clean those up. You’ll also spot any reporting mistakes and you’ll want to work with the reporting agency to get these corrected since they may be adversely affecting your credit. The very worst case scenario is finding accounts that you never knew existed and while this will make your stomach churn better to know about these now rather than when your divorce is final.
Your credit report will show all debit accounts on which your name is listed. This means it will show accounts in your sole name and accounts on which you are listed with another person, such as your spouse. Your credit report will not show accounts listed solely in your spouse’s name so if you can get a credit report in your spouse’s you’ll want to do that but pay careful attention to the credit reporting agencies’ rules. Posing as your spouse could get you into serious trouble.
Credit Card Debt
The best case scenario with credit card debt is that you and your STBX both agree that the debt was mutually incurred such as for vacations, a home project, child expenses, and that it should be shared.
One way of sharing the debt is to take the amount owed from other assets and pay off the debt before the assets are divided. If you have multiple credit cards you might agree to divide up the cards so that the amount owed is even. You could also agree that the card will not be used for any new purchases and each of you will make specified payments each month to pay off the debt.
Other than paying off the debt completely, any approach comes with risks. More on that below.
If you and your STBX don’t agree that the credit card debt is mutual, which is far more typical, then it means going back to the root of the spending and then negotiating how to divide the debt.
The reality with credit card debt is that regardless of who made the purchase, under Federal law, it is the person whose name is on that account who is legally liable.
For example, if you are the account holder and your STBX has a card as an authorized user, then even if your STBX made the purchase, you are liable to the credit card company for the debt and your STBX could leave you in financial ruin. This is the case regardless of what your divorce agreement says. If your divorce agreement says your STBX is responsible for the debt and they don’t pay it, you may have to pay it and then go back to court to have the terms of your divorce agreement enforced. If you don’t pay it, then it likely will harm your credit.
If your account is a joint account then you are both liable and that means the credit card company will seek to recover from both of you regardless, even if you have already paid off your agreed share.
Credit cards held in joint names need to closed with the divorce and Vasileff warns that it is very difficult to close a joint account if the other party is not co-operative.
Let’s go back to the perfect world … in that world, the car loan on your car would be titled in solely in your name and the car loan on your STBX’s car would be titled solely in their name. That’s usually not the case and it isn’t always easy to get to that.
Getting to that would mean either paying off the car loans or refinancing. Refinancing may not be possible if you can’t qualify from an income standpoint. I’ve also seen situations where the debt outstanding is more than the value of the car so refinancing is just not an option.
What we see in these situations is one spouse agreeing to continue to make the car payments on the car the other spouse is driving. It’s a short term arrangement and it often works.
“But if you have any suspicion, hesitancy or reluctance to remain enmeshed with your ex-spouse on this, you need guarantees that they will live up to their obligations,” said Vasileff.
Repaying the car loan isn’t the only concern. You can’t get the title to the car until the loan is paid off and you can’t trade in the vehicle or sell it without the title document. That means you need to keep track of when the loan is paid off and follow up with your ex on the transfer of title.
Student Loan Debt
Here we’re talking about student loan debt belonging to you or your STBX as opposed to your children. This is often an emotional issue and particularly when one party feels they supported the other party going back to school with the agreed expectation of a better future. Sometimes one party has to go back to school to retrain.
“The nature of how these student loans play out in the sense of what they do for the family is important,” said Vasileff. “It colors whether people feel equally responsible for it, unilaterally responsible for it or dismissive entirely of the other party’s debt.”
Whether the debt is funded through a federal loan or a private loan, it can’t be transferred, re-titled or exchanged for another kind of debt. That means if there is any sharing of the debt, then it has be through an adjustment of the division of other assets.
Vasileff cautions again that if your STBX agrees to make payments on your behalf, then you are making yourself vulnerable to them keeping their word.
Basically, medical debt incurred during the marriage is marital debt and subject to division. Most people don’t see “subject to division” as a 50/50 split but are far more likely to see the debt as belonging to the party who had the treatment and that’s where it starts to get messy.
If medical charges have been mixed up with other household charges on the same credit card, then it’s going to be a challenge to figure out what’s been paid off and the current balance.
If you’ve been able to keep the debt separate, such as with a payment plan with the provider or a separate credit card, then it’s easier but still not clean. Let’s say it’s your STBX who had the surgery but they were covered by your insurance. The medical providers are going to be chasing you for payment because its your insurance. So again, if your STBX agrees to take the debt, then you’re going to want some reassurance that it’s getting paid off. You will want your divorce agreement to clearly state that your STBX is responsible for the debt because if they don’t make payments you will have some recourse through the court.
And for recent medical bills that are still being processed, then the statements from the insurer detailing what’s covered and what’s the patient’s responsibility go to the insured. That also applies to reimbursement checks. So if you’re not the insured you’re going to want to see those statements before committing to reimbursements.
Loans From Retirement Accounts
Another type of debt we often see are loans from retirement accounts such as 401(k) or 403(b). These are interesting because while they are debts, the repayments are credited to the account holder and increase the value of the account.
This characteristic means that when considering the value of the retirement account, it is the value net of any outstanding loan. Since the loan is non-transferable , then Vasileff says if there is a need to offset the loan then it comes from a reduction in another asset.
When There’s Just Too Much Debt
Regardless of your chosen legal process (traditional, mediation, Collaborative), you will go through financial discovery which means gathering all the data about your finances. Through that process you’ll get a clear picture of your total debts, one which you may not have been willing to look at before.
“If it becomes a situation, which is fairly common, where the debts have a profound effect on the lifestyles of the parties, you are almost obligated to deal with those first,” said Vasileff.
That means looking at what cashflows can be set aside to deal with the debt or how the debts can be extinguished, terminated or consolidated with a payment plan. For some couples, it can even mean living separately under the same roof while delaying the legal process so some of the debts can be paid down.
“This leads you down one path that says if they are so overwhelming, if they are so out of control, and both parties were equally responsible for it, are they better off looking at a bankruptcy before they even proceed with the divorce?” said Vasileff.
Lili Vasileff is President of Wealth Protection Management and a nationally-recognized expert in financial planning and her deep knowledge about complicated financial issues in divorce. Her latest book (available on Amazon) is Money & Divorce: The Essential Roadmap to Mastering Financial Decisions.