How to Avoid Costly Mistakes in a Divorce

By Brad Harvey on May 1, 2023

This is the next post in a series about handling surprises life can throw your way. Divorce is never a fun topic, and very few divorces are “easy.” Emotions are involved; the process becomes more complicated when there are children. For couples in a high-income bracket or those with complex investments or privately held businesses — divorce can be drawn out for months, even years — at great expense to the couple involved. One of the first calls many divorcing couples make is to attorneys. However, it also makes sense to involve a financial advisor from the outset; many divorce attorneys have specific advisors they work closely with, and vice versa so either is a good place to ask for a referral to the other.

The following are some areas to consider when going through a divorce.

Retirement Accounts

Because of tax implications, splitting retirement accounts isn’t as simple as dividing the totals in half. In some cases, couples use retirement accounts as an offset for another asset — i.e., keeping a retirement account whole and offsetting that by forfeiting a share of the family home. When they are split, it is done by qualified domestic relations order (QDRO), which is an evaluation of the assets, a split of said assets, and payment of one share to the other party’s retirement account without triggering tax consequences.

Often, splitting retirement accounts by QDRO can take a significant amount of time to transition to the other spouse’s name fully. During this time, the market is still open and trading daily. If the verbiage of the QDRO, and ultimately what gets submitted to the plan administrator for processing, does not incorporate market return, you could leave a lot of money on the table.                                                                                                       

Keeping the Primary Home  — The Importance of a Plan

Often, women want to stay in their pre-divorce home,  particularly when children are involved, as many upheavals and moving can add to a chaotic situation. However, the house is often more expensive than can be afforded on the new solo budget, which can cause a cash strain.

Deciding to stay in the home can lead to bad long-term financial decision-making; for instance, if the homeowner chooses to dip into savings. If the only source of savings is retirement, the homeowner can get hit with penalties and taxes on each withdrawal, making it a costly funding source. Furthermore, gambling against the future to pay for immediate expenses is not a good long-term OR short-term strategy. Beyond that, homes are also traditionally not a highly appreciating asset. All the sacrifices to stay in the home can come at the cost of keeping an investment that might not serve the owner as well as other assets, leading to fewer assets in retirement.

There may be tax implications to decisions made during a divorce and must be considered. For example, the tax bracket may change for spouses shifting the amount owed. These are good conversations to have with a financial advisor skilled in this specific space — one who understands all of the emotional and financial considerations involved in these critical financial decisions. This is a time to look at creating a financial plan and budget, looking at pros, cons, and priorities to determine the best course forward financially and realistically. There may be alternatives that are more than numbers on paper, and a financial advisor who works with divorcing couples likely has seen any number of mutually successful outcomes.

Health Care

Most of the time, one spouse will need to get new healthcare after a separation and certainly after the divorce (in some cases, separated couples can stay on one healthcare plan) because they will fall off the other’s healthcare coverage. Premium and prescription costs can be shockingly expensive, especially if the spouse who needs insurance does not have options through an employer. Pre-existing conditions can also add a layer of planning, as can the premium, prescription, and other costs of covering children’s ongoing healthcare needs. In some cases, even if one spouse maintains the coverage for children, out-of-pocket costs are still split. The couple should make arrangements to formalize the payment structure for those costs.

Divorcing is emotional, and it can be hard to “escape the emotions.” When it comes to money, think of a divorce as the equivalent of the dissolution of a business. We caution you against making decisions based on emotions or without sound and objective professional advice. Working collaboratively with an attorney and a financial advisor helps you protect your interests so you can focus on your emotional well-being and long-term financial success.

Next month, we’ll complete this series with information on what you should focus on if you lose your job.

About Harvey Investment Management, Inc.

Harvey Investment Management, Inc. provides information to help our clients achieve their financial goals. We aim to empower and support investors no matter where they are in their financial journey. Reading this blog may be the first step of many you take, and we encourage you to ask questions along the way. In addition, we invite you to learn more about our team and how we can help you reach your financial goals by emailing or calling us at 719.960.0969.

Brad Harvey, President and CEO of Harvey Investment Management, Inc.