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Divorce is a tough process on a personal and emotional level. It can be disruptive to families and impacts your life on nearly every level. Beyond these challenges, divorce is a major financial event for most people. That’s why it’s so important to understand the ramifications of your financial choices in divorce to steer clear of costly financial mistakes.
Here are seven mistakes that should be avoided when it comes to splitting assets as part of a divorce.
1. Keeping the marital home when it’s not financially feasible
In dividing shared assets during a divorce, it can be tempting to want to keep the marital home for any number of reasons, but it’s important to be sure this is the best financial decision for you. Can you afford the mortgage, the taxes and the general upkeep on the house with a single income?
Be sure to make a solid economic decision versus solely an emotional one.
2. Forgetting to revise beneficiary designations
Once the divorce is finalized, it’s important to revise the beneficiary designations on life insurance policies, annuities and retirement accounts to better reflect the people you want (and don’t want) to benefit from these accounts in the event of your death.
If you don’t update the designations, your ex-spouse would remain as the beneficiary, assuming they were during your marriage, which means they’d still be in line to receive a death benefit or inherit your retirement accounts without the information being changed.
3. Not understanding the value and tax implications of investment assets
In looking at the value of various marital assets, it’s important to understand not only the current value of the asset but the tax implications of owning the asset. As a case in point, taxes are due when investments like stocks, ETFs or mutual funds are sold. Be sure to understand how things like the asset’s cost basis will work after the divorce and how capital gains are taxed.
It’s also important to do a review of any investment that you might receive in a divorce settlement to be sure the investment’s future prospects are solid.
4. Failing to discuss health insurance options
It’s important to be sure that you have access to health insurance after the divorce if you were getting coverage under your spouse’s benefits through their employer. If you are employed and coverage is available where you work, consider enrolling in the plan. Even if the legal split occurs at a time when your employer is not doing open enrollment for benefits, a divorce typically qualifies as a life event that allows you to enroll in most employer plans.
If you don’t have access to coverage through an employer, you will need to find another alternative. You might look at COBRA coverage through your ex-spouse’s employer’s plan. Or you could explore the open market, including your state’s health-care exchange to find coverage.
Beyond your own needs, if you will have custody of children following the divorce, it’s crucial that the settlement include coverage for them.
The cost of not having health insurance can be financially crippling in the event of a serious medical condition, so it’s best to ensure that coverage is handled in the divorce settlement agreement.
5. Not ensuring your children’s educational future is financially secured
When divorcing, it’s important to discuss your minor children’s financial futures. Which spouse, or both, will cover college costs? If there are college savings accounts like 529s involved, which parent will control these assets?
When making these and other decisions, be sure to take into account the relative financial position of each parent as this can have an impact on the amount of financial aid the kids may be eligible for when the time comes for college admissions.
Part of your divorce financial planning should involve the financial impact on any minor children.
6. Retirement account issues
Retirement accounts, such as a 401(k) or a pension, can be major assets in a marriage and should be considered in the settlement negotiations. Sometimes the retirement accounts of one spouse may be much higher in value compared to those of the other spouse.
These accounts should be dealt with during the divorce proceedings. In some cases, a qualified domestic relations order will be put in place to govern the division of these assets with the nonaccount-holding spouse. When it comes to a QDRO for a retirement plan such as a 401(k) or a pension, the ex-spouse receiving the benefits under the order will be treated as if the benefits were theirs as the plan participant.
In the case of an individual retirement account or an health savings account, each financial institution will have its own change of ownership form for the spouse receiving some or all of these accounts in the divorce settlement.
7. Not knowing how Social Security benefits work for divorced spouses
Though not part of the divorce settlement, ex-spouses need to be aware of any Social Security benefits they may be entitled to under the work history of their ex-spouse. These benefits can be valuable and can sometimes be claimed in lieu of their own benefits if the amount is higher.
Divorce involves many life-changing aspects. It can be a very emotional process as well. But make no mistake, divorce is a major financial process for most people involved in the split. Both spouses should look out for their own best interests in the process and ensure that they receive a fair financial settlement.