Don't Let Divorce Bust Your Finances
Settling for less now can lead to financial regrets later. "Going through a divorce has to be viewed as a business transaction, and it is perhaps one of the biggest of your life," says June Walbert, a CERTIFIED FINANCIAL PLANNER™ with USAA. "Many people take the path of least resistance because they just want out, but settling for less now can lead to financial regrets later," she says.
Decisions Today Affect Retirement Tomorrow
Walbert herself faced divorce long before she became a financial planner. "As I went through my training to become a CFP practitioner, I realized I made several mistakes in my divorce," says Walbert.
The biggest? She didn't insist on splitting her husband's tax-deferred retirement accounts as part of the terms. "I settled for cash, investments, art and property upfront instead," she says. "But nothing beats the power of tax-deferred compounding. I missed out on that, and I've always felt a little behind when it comes to tax-deferred assets for retirement."
Though she's playing catch-up, she did leave the marriage with furniture, a vehicle, property, the ability to make a living and the all-important emergency fund -- a cornerstone of establishing your own financial household that she says many divorcees neglect.
Understanding the long-term implications of your settlement and making sure you get what you're entitled to are musts, says Walbert.
Here, Walbert shares financial do's and don'ts of divorce to help you build a firm financial foundation now and in retirement.
10 Do's and Don'ts
1. Do stay well-informed before the divorce. During the marriage, both spouses need to know their complete financial picture -- how property is titled, the passwords for accounts and the location of financial documents.
Don't fall into the silent partner syndrome. If you don't know these financial details, you could be at a big disadvantage when trying to determine a fair and equitable split of marital assets.
2. Do get a clear picture of your finances. If you don't know the details, turn into a sleuth. Dig around and make copies of records or, perhaps even better, hire a forensic accountant. You also can subpoena financial records and require a deposition under oath to get the information you need.
Be dogged about seeing documents and papers that explain your financial picture. Ask questions like "How have we been able to afford our lifestyle?" and get the answer you need.
Don't avoid digging for the details.
3. Do hire your own team. That includes a lawyer, financial planner and perhaps a tax advisor. Your team of pros can look after your best interests objectively.
Don't use your soon-to-be ex's attorney. An attorney can only truly represent one side's interests. You and your spouse are no longer a team. While you may want an amicable divorce, don't do that at the expense of your future. That said, you might consider engaging the services of a divorce mediator instead of hiring separate attorneys. Working from a neutral position, a divorce mediator helps divorcing parties reach agreement on the division of assets, child custody and other issues. Mediation may be less expensive and time-consuming than litigation.
4. Do understand the real value of your retirement assets. Some assets are taxable; others are not. Keep that in mind as you determine an equitable split. For instance, a Roth IRA can provide tax-free income in retirement. On the other hand, withdrawals from a traditional IRA, 401(k) or military TSP will be subject to taxes. If you're awarded funds from an IRA or TSP, you can roll them into a new IRA to continue tax-deferred compounding and avoid paying taxes and a penalty for early withdrawals. Pensions, often considered marital property, could be subject to division. Some may have a cost-of-living adjustment; others do not. That impacts the value of the asset.
Don't believe all assets are created equal. As noted above, always evaluate the after-tax value of assets. For example, $100,000 in an IRA or retirement plan could be worth less, maybe a lot less, after you consider income taxes. For someone with a combined federal and state marginal tax rate of 30%, that $100,000 may only be the equivalent of $70,000 in a nonretirement account. And a pension that has a cost-of-living adjustment can be worth hundreds of thousands, despite a seemingly small monthly payment. Consider the long-term financial value of an inflation-adjusted pension and the after-tax value of other assets. Ask your tax advisor or financial planner for help in understanding how much each asset is truly worth.
5. Do think about diversifying your assets for your retirement. Say one spouse has $100,000 in a Roth IRA. He might offer the other either all of the Roth or half his pension in the divorce settlement. That's not a good settlement. You want to split the Roth and the pension. Then you're diversifying your retirement, helping to ensure a variety of income sources for your future.
Don't make concessions without realizing the implications for your future. Trying to be agreeable, you might accept an offer of cash or settle for half your spouse's pension. But remember, you need a diversified portfolio down the road, so stand firm in your negotiations.
6. Do have credit in your name. Maintain good credit throughout your marriage. Keep some assets and credit cards in your name so you have a credit identity of your own.
Don't keep any joint accounts or cosigned loans. Make a clean break to protect your good credit. If you can't refinance separately, sell the asset. Don't take pity on your former spouse if he or she can't refinance. Don't let your ex put your credit rating at risk.
7. Do protect child support and alimony payments. Make sure you or your ex-spouse have plenty of disability insurance to make up for this income in case of injury or death. Many divorce attorneys make this a standard request. Make sure yours does. For the fullest protection, have the agreement stipulate that you are to be the owner of the insurance policy -- even if your ex is responsible for paying the premiums. That prevents your ex from canceling the coverage or changing the beneficiary.
Don't fail to plan for the worst-case scenario. If your ex should stop working for an extended period because of an injury, how will he or she keep up with child support or alimony payments? And what if your ex-spouse dies? Ask your lawyer to request that your children be named beneficiaries in a life insurance policy and ensure that disability insurance is in place to protect that income.
8. Do update your budget. Take a close look at your spending habits now that you're single. You may have to make hard choices and restructure your spending patterns to keep up with monthly bills.
Don't act as if nothing has changed. One person typically undergoes a dramatic lifestyle change. If that's you, adjust accordingly.
9. Do take care of estate-planning issues. Update beneficiary designations in your retirement plan, any annuities you own and life insurance policies. Plus, talk with your lawyer about changes to your will, powers of attorney and other legal documents now that your spouse is no longer in the picture.
Don't treat such updates as unimportant. Don't expect a former spouse to give back money erroneously left to him or her in a retirement plan or via an insurance policy. A beneficiary designation trumps a will in every state. When it comes to naming guardians for your children, updating your will ensures you don't leave it to a judge's discretion.
10. Do take advantage of your spouse's Social Security benefits. If you were married 10 years or more and the benefit you are entitled to receive based on your own work is less than the benefit you would receive based on your ex-spouse's work, you may be able to draw benefits on his or her work record, according to the Social Security Administration.
Don't dismiss Social Security benefits that can bolster your retirement income. Social Security payments may not cover a large part of your retirement income needs, but they add up. For example, assuming 3% inflation, 5% interest and a 30-year benefit period, a $1,000 a month Social Security benefit is worth more than $250,000.