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December 10, 2022
As someone contemplates divorce, one of the most common concerns, after custody of the children, is whether either spouse will be able to continue living in the marital home. Most likely, the home has significant emotional value. It could represent heartfelt memories of raising your family during happier times or it could be the location of some other happy occasion, such as a wedding that was hosted there. It could also represent financial status, as it may have taken years to build or complete various improvements in the home.
It could even provide the hopes of a smoother transition by trying to maintain the “status quo” as much as possible for your children (and yourself too). While these reasons are certainly understandable and meaningful, it is crucial to also consider the financial factors in deciding whether to stay in your home. The following are some factors that everyone should think about before reaching a decision.
The home can often be one of the largest assets on the marital balance sheet, which can create a potential cash flow issue if you are the one remaining in the home. If you owned the home jointly while married, one party would need to “buy out” the other in order to stay. This can potentially have a negative short-term and/or long-term financial impact on the party who chooses to remain. Buying out the other party means electing to forego other liquid assets (in the property settlement) to retain your spouse’s share of the equity in addition to yours.
As an example, if a couple has a $1 million home (with no outstanding mortgage for simplicity) and the wife wished to remain in the home, it will require her to give up $500,000 of other assets in order to buy the husband out. Another option is to obtain a mortgage on her own, which could be more challenging with only one income and half the marital assets. The $500,000 of assets she gives up could be crucial for her short-term liquidity and/or long-term financial security. This would be less of a concern if the wife has a high-income career or if any additional marital assets she receives in the property settlement are enough to provide her with the necessary annual income. Nonetheless, it is a crucial decision given the potential impact on cash flow.
Any home will be accompanied by significant monthly outflows. Monthly costs associated with the home can include real estate taxes, utilities, insurance and ongoing maintenance such as landscaping, painting and even miscellaneous repairs or improvements. If you have an outstanding mortgage on the home, this will put an additional strain on the monthly cash flow. Review in detail what the monthly costs were over the last year and if any additional costs will be necessary over the next year or two.
Have you been putting off replacing the air conditioning unit or maybe it is time for a new roof? Will these monthly and one-time costs fit comfortably into your new budget? If not, moving to a new home could possibly provide you with an opportunity to downsize and reduce those monthly outflows to better align with your new budget.
When a married couple (filing taxes jointly) sells their primary residence, the sales proceeds (net of certain selling costs) are potentially taxable to the extent they exceed the adjusted cost basis in the home. This is the estimated gain in the home. As a married couple (filing jointly), if you meet certain requirements, you may be entitled to a principal residence exclusion of $500,000 to help mitigate the taxable gain. If there is an expected tax liability upon selling (pre-divorce), the associated tax liability is also included on the marital balance sheet.
When you buy out your spouse’s share of the marital home, their portion of the home’s original cost basis (and adjustments to the cost basis) is added to yours. That means that any appreciation in the home’s market value during your years of marriage is now yours—along with the associated tax liability. And to make matters worse, if you sell the home post-divorce, the actual tax liability on those gains may be greater, since the gain exclusion amount on your principal residence would likely be $250,000 (single filing tax status) instead of the $500,000 you may have qualified for as a married couple.
It may not be a material concern if your home’s fair market value didn’t appreciate by more than $250,000; however, if it has, it may be an unpleasant surprise when you decide to sell your home five years later (e.g., after the kids are out of the house). There are some ways to protect yourself if you plan to stay in the home. Be sure to consult with a financial professional (preferably a certified divorce financial analyst (CDFA®) when determining the most tax-efficient division of marital property. When discussing with your attorney how the marital assets could potentially be divided, you need to factor in any future income tax implications of keeping the home.
Remaining in the marital home is often viewed as the “safest” route when considering other viable options. Remaining close to friends and neighbors can be additional support and very important to everyone. The idea of relocating—searching for a new home, selling the existing home, packing and starting over somewhere—can contribute additional stress to an already emotionally exhausting period, even if it is moving within the same town.
Alternatively, the marital home may come with “baggage” and it may be better to find a home that provides a fresh start while better suiting your needs (i.e., specific features, layout, location). Perhaps your current home was your spouse’s dream home, but not yours. It may also have more rooms than you would like to manage going forward (putting aside the associated costs). Finding a home that best suits your future needs, style and budget could be a healthy way to turn the page and start a new chapter in your life.
When starting this process, the best way to approach it is to first consult with your attorney to determine the possible options for property settlement and marital support. Keep in mind that these are only estimates at this stage of the divorce proceeding. Once you have this information, you should sit down with a financial advisor and/or CDFA® to determine what you can comfortably afford with your projected net worth and income. If you can comfortably remain in the marital home post-divorce (after factoring in monthly savings) and that is also your preference for other reasons, then you can spare yourself the additional stress.
If the numbers aren’t ideal for remaining in the marital home, find out what would be an appropriate amount for you to spend on purchasing a home and covering related monthly costs. Does it make sense to take out a mortgage? If so, will you qualify for a mortgage? Obtaining a market analysis on your home during initial divorce proceedings will assist in estimating any potential income tax liability that may be due upon sale.
Conduct your search using the criteria that is important to you. Be sure to set aside additional funds for decorating and any necessary repairs or improvements. It is important to begin these discussions with your attorney, financial advisor or CDFA® early in the divorce proceeding to allow sufficient time to review the analyses and begin searching for a home if necessary.
The decision whether to keep or sell the marital home is both an emotional one as well as a financial one. It should be discussed as a part of the overall property settlement. Take your time with this decision and utilize all resources available to you including your attorney, accountant and financial advisor. The emotional wounds will heal over time, but the negative financial impact of staying in a house that you cannot afford is one that will not fix itself over time.
Cerity Partners LLC (“Cerity Partners”) is an SEC-registered investment adviser with offices in throughout the United States. Registration of an Investment Advisor does not imply any level of skill or training. The foregoing is limited to general information about Cerity Partners’ services, which may not be suitable for everyone. You should not construe the information contained herein as personalized investment, insurance, tax, or legal advice. There is no guarantee that the views and opinions expressed in this presentation will come to pass. Before making any decision or taking any action that may affect your finances or your company’s finances, you should consult a qualified professional adviser. The information presented is subject to change without notice and is deemed reliable but is not guaranteed. For information pertaining to the registration status of Cerity Partners, please contact us or refer to the Investment Adviser Public Disclosure website (www.adviserinfo.sec.gov). For additional information about Cerity Partners, including fees and services, send for our disclosure statement as set forth on Form CRS and ADV Part 2 using the contact information herein. Please read the disclosure statement carefully before you invest or send money.
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Mariella Foley is a Partner in the New Jersey office, where she has over 25 years of experience in the financial services industry providing personalized...
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