One of the most important decisions facing a couple going through a divorce is what to do with the home they owned together. And if the breakup is bitter, attempting to agree on the house and mortgage can be difficult.
There are several factors to consider, including how the property was financed and titled; whether or not one of the parties wants to remain in the home; the amount of equity in the residence; and both individual’s credit ratings. Here are some things to think about if you’re going through this stressful change in your life.
Should I sell or stay?
If both spouses want to stay in the marital home, deciding who will get to keep it can be challenging. Of course, the decision can go more smoothly both financially and emotionally if you work amicably with your spouse.
Once a couple does come to a decision about who should get the home after the divorce, the pair should make sure the recipient can afford to keep it in the long run.
Refinancing your mortgage
When getting a divorce, some couples choose to refinance a joint mortgage into one name. This releases the spouse whose name is coming off of the loan from responsibility for the mortgage. Unless that partner’s name also is removed from the title, however, they still can benefit from the sale of and equity in the home.
So, it’s key not only to refinance but also to update the title to reflect one owner. A quitclaim deed is commonly used to remove a spouse’s name from the title in a divorce.
A big factor for many divorcing couples is the reduction in income and assets that help borrowers obtain the best mortgage rates. Mortgage rates currently are very low, though, which could work to a divorced person’s advantage, provided they qualify.
The mortgage rate you get after a divorce will depend on the same factors that determine other borrowers’ rates, including your income, debt, credit score and market environment. But the spouse applying for the refinance can only use their own income and credit score to qualify.
The lender will determine whether the individual is OK as a sole guarantor, so the issue is who can afford it.
If a partner will be receiving alimony or spousal support, they can use that income to qualify for a refinance. However, the divorce settlement must stipulate that they will receive alimony for at least three years. If the couple has equity in the home, the spouse keeping the house could apply for a cash-out refinance to pay the ex-partner their share.
The remaining spouse also might be able to find a non-occupant co-borrower to qualify for the new loan. It may mean doing a cash-out refinance first to get part of the money to the exiting spouse, then following that up with a HELOC (or home-equity loan) to get the remaining money due to the existing spouse.
Selling your home
If the couple doesn’t meet a deadline to refinance the mortgage into one spouse’s name, the divorce agreement might require the sale of the home and splitting of profits. If neither spouse can afford the mortgage on their own, they may have no choice but to sell. It may be in everyone’s best interest to sell the place, pay off the mortgage, collect their share of the profits and begin anew.
Selling also is the best way to find out how much the home is worth if there’s a dispute over that. Other than the mortgage balance, couples should consider the costs they will incur if they sell or refinance the home. These might include real estate commissions, the amount it will take to spruce up the property to make it more attractive to buyers, real property transfer taxes and capital-gains taxes.
Evaluating your home equity
While selling the home is the only way to truly value it and calculate equity, that’s not always feasible or appropriate. The next best thing is to get a professional appraisal. But sometimes a couple might disagree on the appraised value.
This can thwart efforts to move forward, and also mean spending more time and money on attorneys and appraisers. If a couple is cooperative and can decide on an appraisal company, that is the best way to determine what the actual equity is in the home; if not, each party should have an appraisal of the home and use an average value when determining equity.
When selling your house, you pocket the equity, less selling costs. It’s common for a couple to split the equity per their separation agreement or use it to pay off other debts accrued together.
Paying off your ex for their share
If the home is worth $300,000 and the couple owes $200,000 on the mortgage, they have $100,000 in equity. So, $50,000 will be needed to buy out the other spouse’s share, if they have agreed to a 50-50 split.
To get the cash, one partner refinances into a $250,000 loan in their name only, and uses the $50,000 cash payout to settle up with their ex — but they have to be sure they qualify for the loan. Their income needs to be high enough to handle the new mortgage on their own, and the home must have the equity in it to take the cash out.
If you want to keep the house and don’t have the equity to do a cash-out refinance or the money to pay your ex their share, a HELOC could come in handy. You could consider doing a home-equity loan or a home-equity line of credit, as some lenders will allow you to go to 95 percent to 100 percent of the value of your home.
Tax implications
Whether you sell the home as part of the divorce agreement or buy out your spouse’s share, capital-gains taxes could come into play. This is a tax on the sale of capital assets, such as a home, when the profit exceeds a certain amount.
If you sell the home, you and your spouse can each deduct up to $250,000 of gain from your taxable income, but it applies only to the primary residence you’ve lived in for at least two of the last five years before the sale, according to the IRS.
Vacation or investment properties don’t count. The capital-gains tax is a progressive tax, similar to ordinary income taxes. A wealthy couple might expect to pay as much as 20 percent on the capital gain from a home sale. Meanwhile, a divorcing spouse should be cautious about taking a house that has depreciated.
You have to be careful which assets you end up taking, because you don’t want a house with a big loss on it. Taxpayers can’t claim losses on the sale of a principal residence, which might be a reason to hold onto the house and rent it out in hopes that the market will bounce back.
There also are tax considerations regarding alimony payments, which could affect a divorcing spouse’s ability to qualify for a new mortgage or to refinance the mortgage on the marital home. According to the IRS, the spouse who earns a higher income and pays alimony can’t deduct those payments from their taxable income, but the spouse receiving alimony does not have to declare it as income.
(This applies to divorces finalized after Dec. 31, 2018.) The higher-earning spouse could make a case for paying less alimony, which can lower the receiving spouse’s income to qualify for a new loan. Alimony payments also could hurt the payer’s income and chances for a mortgage.
On the flip side, can the alimony recipient afford to keep the house, given they are responsible for all the expenses? In that case, it would be a good idea to hire a divorce lawyer who understands tax issues or who works with someone who does.
Removing your ex’s name from the mortgage
Only the lender can remove one spouse’s name from the mortgage, and in most cases, the only way to get a spouse off a mortgage is to refinance them off of the mortgage. If the spouse keeping the house is the only one on the current mortgage, then a quitclaim deed could be executed to get the exiting spouse off of the title to the property.
Leaving their name on the mortgage can affect the ability of the non-resident spouse to qualify for another loan if they decide to buy their own home down the road. The biggest factor in qualifying for a mortgage is the debt-to-income ratio, and if you’re on another mortgage, that debt is going to be included in that calculation. If you’re near the limit, your debt-to-income will be too high.
Protecting your credit
Divorce is an emotional, often volatile event, but the worst thing divorcing couples can do is take financial revenge, experts say. Many times, out of bitterness, one or both spouses will attempt to ruin the credit of the other spouse by refusing to pay joint bills.
This can damage your credit greatly and keep you from being able to qualify for any mortgage for a long time. Divorcing couples, therefore, should keep paying all their bills through the divorce process to protect their credit. Close any joint accounts and set up your own accounts. If you’re arguing with your spouse over who is going to pay a bill, and you get a ding on your credit, it’s going to be more difficult to get a loan.
Finding financial peace
Before you make decisions about your home or mortgage during a divorce, make sure you have a good divorce attorney, financial planner, and mortgage broker. A divorce may seem like the end of the world, but rest assured there will be life and financial peace after the storm passes.
