For couples contemplating divorce, perhaps the most pressing question they face is: what should we do with the family home? It is a decision many families are grappling with throughout the country.
The numbers help to tell the story: 65 percent of Americans own homes; Americans owe over $10 trillion on their mortgages; home ownership is the average American’s greatest investment; 39 percent of marriages end in a breakup with the pandemic causing a spike in divorce. Add on to these numbers the fact that, at the present time, the Federal Reserve has been aggressively hiking interest rates. It is therefore no wonder most divorcing couples are confronted with the dilemma of what to do with the family home and oftentimes struggle to find an answer.
There are, broadly speaking, four options when it comes to the family home and divorce. Below, you can read through every option; or, you can click on the option links directly below to jump to these sections:
- Option One, sell the home and split the proceeds;
- Option Two, a cash-out refinance (or, alternatively, a loan assumption) in which one spouse stays in the home and one moves out;
- Option Three, both continue to co-own the home and defer sale until a later date; or
- Option Four, swap the home for other major assets.
When approaching these decisions, divorcing couples should follow the adage: explore what’s possible and then take action on what’s prudent.
Option One – Sell the Home and Split the Proceeds
This first option stands out as the cleanest conclusion for a divorcing couple – just sell the home, liquidate your joint investment into cash and split the proceeds.
What are the benefits of selling the family home?
There are two primary benefits to selling the family home when entering into divorce – one is practical, the other is emotional.
First, as to the practical benefits, a home sale can be the most sensible option when neither spouse can independently qualify for a refinance and/or afford the home. At present, interest rates are rapidly rising. and it is increasingly difficult for individuals to refinance from a low-interest rate joint mortgage to a relatively high-interest rate solo mortgage. And even if one spouse can qualify for a new mortgage, each spouse must decide whether they can afford the costs of home ownership on one salary – the utilities, the taxes, insurance, and home maintenance.
Second, as for the emotional benefits, selling the family home allows for a “clean break.” With most divorces, deciding what to do with the family home is often weighted with emotional ties and considerations. It is not a purely practical consideration. For some, leaving behind the family home may be a tumultuous change that creates further chaos during an uncertain time. Yet for others, leaving behind a home where you experienced divorce provides necessary closure so you can set a new course.
What should you do in preparation for selling the family home?
Your best first step when deciding whether and how to sell the family home is to speak with a trusted real estate agent. A good agent can advise you on when to list your house, at what price, and whether there are necessary improvements that need to be completed before listing.
It takes time to sell a home – it’s estimated that people spend several months planning and preparing to sell their home. It then takes, on average, 2-3 months with the house listed on the market, pending sale and closing.
When should you sell the home?
There are many practical benefits to selling a home before you get divorced. Without question, a court granting your dissolution may prefer that the house be sold or pending sale. A completed sale offers the benefit of certainty.
In the event you are waiting to sell the family home after divorce, you’ll need to detail the various contingencies of a deferred sale. There are many “what to do in the event of…” scenarios. As a divorcing couple—oftentimes working at arm’s length—you’ll need to make joint decisions about, among other matters: which real estate agent will you hire? What will be your listing price? What improvements (if any) to make, and how will you pay for those improvements? What is the lowest price you’d accept, if offers fall below this mark, what to do then?
Finally, there is the issue of carrying costs. Until the official closing and sale of the home, you’ll need an agreement on how you’ll pay for the mortgage, utilities, insurance and taxes.
What are the costs of selling a home?
For divorcing couples who elect to sell their home, it’s best to have a realistic picture of the transactional costs of selling a home. For many couples contemplating a home sale, they compute their equity stake by subtracting their mortgage balance from the estimated home value. But the actual amount of your net proceeds may surprise you. As a basic rule of thumb, it’s estimated that you’ll spend 10 percent of the purchase price in order to complete the sale of your home.
There are, for example, closing costs that most sellers must incur. As a seller, you will typically pay 6 percent in commissions which will be split between your agent and the buyer’s agent. This is often the largest transactional cost. Some homeowners might seek to avoid payment of a commission by selling the home themselves – often referred to as a FSBO (“for sale by owner”). This option, however, has risks. There is evidence a FSBO home may sell for less – often less than the 6 percent you’d be saving. Other closing costs might include transfer taxes, escrow fees, and attorney fees.
There are also seller’s concessions. These costs include post inspection repairs, a warranty for the buyer and credits toward closing costs. And there will likely be marketing costs, including some: professional cleaning, landscaping, staging, professional photos, home improvement, and pre-inspection.
You should also anticipate the cost of moving, including payment to movers, temporary housing, ongoing utilities, etc. If you move out of your home before it sells, you may need to secure a rider to your home insurance policy to cover a vacant property.
What if you are underwater on your mortgage?
If your current mortgage balance exceeds the property value, then you may be looking at a “short sale” in which you’ll need to come up with additional funds to pay off your loan. If you fall into this category, there are at least two options to consider:
First, you can talk to your bank to see whether you can negotiate a walk-away on sale. A short-sale negotiation will require time and patience, but it is often worth a try. If you have a successful negotiation, be sure to reduce your agreement to writing.
Second, you can explore the option of renting your house. In this instance, you can (hopefully) secure rental payments sufficient to cover your costs while you reduce your mortgage balance and/or wait for the market to improve. This option requires outlining contingencies and a joint venture agreement.
Option Two – A Cash-Out Refinance or Loan Assumption
If one spouse wants to stay in the home, and the other is fine to cash out and leave, then you’ll want to explore a cash-out refinance – or, in a minority of cases, a loan assumption.
What is a cash-out refinance?
With a cash out refinance, you essentially take on a new mortgage that will pay off your existing mortgage and also pay out your spouse’s equity share in the house. It is a new loan that is subject to the current mortgage interest rates.
To give an example, let’s say, for instance, that you owe $100,000 on your mortgage. And your house is appraised at $300,000. In this case, you and your soon-to-be-ex would have $200,000 of home equity – presumably $100,000 each. If you are the spouse remaining in the home, you would refinance into a new mortgage for $200,000. With this new loan, you would pay off the existing loan balance ($100k) as well as pay out your departing spouse’s equity share ($100k). As the remaining spouse, you keep both the home and its future value. The departing spouse would walk away with cash.
Before we look into a refinance, can’t we avoid all this by simply transferring the deed?
No. If you are co-signed on a mortgage with your soon-to-be ex-spouse, then you cannot simply retitle the house as a way to transfer the mortgage. Signing a quit claim deed does not remove you, or your spouse, from the mortgage. In the eyes of the lender, you are still on the hook – even if you have retitled the property.
What are the benefits of a cash-out refinance?
A cash-out refinance can be a great option if it is feasible and meets the objectives for both you and your soon-to-be ex-spouse. If you are clear that one of you wants to remain in the home, and the other one wants to leave, then it is sensible to explore whether a refinance is possible.
A cash-out refinance can also be a great option because it offers a clean break and certainty. The spouse that remains in the home is offered an opportunity to keep a home that they want to be in. Perhaps the home carries with it a sense of stability? Or you think it’s a great home and investment that would be difficult to replace? Or it may be in a good school district so your children’s schedules are undisturbed.
And for the departing spouse, they get a fresh start. The mortgage is taken off their credit report – they are not encumbered by a joint debt. And they may receive an influx of cash to look for a new home.
What are the downsides to a cash-out refinance?
The most notable downside of a cash-out refinance is, not surprisingly, rising interest rates. If you refinance today, you may be incurring a loan with a much higher interest rate; and, consequently, an increased monthly mortgage payment. This particular trend of rising rates is creating complications for divorcing couples all throughout the country.
There is also the issue of costs. It may cost 2-6% of the home loan to complete the refinance. You should check with your bank to see whether some or all of these costs can be wrapped into the mortgage. You should also be aware that a refinance takes time – often about 6 weeks to complete.
Finally, for the remaining spouse, there is the issue of affordability. If you secure a refinance, can you afford the new mortgage on one salary? And can you also cover the costs of home ownership on one salary? It is important that you spend time creating a budget so you have a complete financial understanding that compares your income against your anticipated costs.
Can I qualify for a refinance?
Qualifying for a refinance is often the most pressing question for homeowners. It boils down to the three “C’s” – capacity, credit and collateral.
Capacity relates to your debt-to-income (DTI) ratio. Banks will want to review your financial situation to understand whether you have enough income to cover your monthly expenses by a certain percentage. The bank will investigate your front-end DTI with analysis of your house-related expenses; as well as your bank-end DTI with analysis of your non-house minimum required monthly payments (e.g., a car payment or student loan). A bank will divide your monthly payments by your gross monthly income, and then convert that result to a percentage. A conventional home loan will require a stricter ratio of debt-to-income; a Federal Housing Administration (FHA) loan will be more lenient.
Credit relates to your credit score as produced by the three credit bureaus: Experian, Equifax, and TransUnion. Many lenders require a credit score of at least 620 to refinance to a conventional loan. Most FHA lenders require less – more in the ballpark of mid-500s.
Collateral refers to the home securing the loan and its loan-to-value (LTV) limit. A LTV ratio is a measure between the amount left on your mortgage and the value of your home. If your LTV is 80%, for example, that means you own 20% of your home. Essentially, the bank wants assurance that you have enough equity in your home. If you are underwater on your loan, this may prevent you from securing new financing. Certain refinance loans, however, allow you to remove a spouse’s name from the original mortgage despite a low equity position. If you already have an FHA loan, you may qualify for an FHA streamline refinance which may allow you to remove a borrower without checking home-equity.
Will child support or spousal support payments count as qualifying income?
When a bank looks at your debt-to-income ratio to see whether you have enough income to cover a new loan, they may take into consideration your receipt of child support and/or spousal support. These support payments often boost your qualifying income if it is considered “stable” income. To this end, many banks will want to see that you’ve received child and/or spousal support payments for at least 6 months prior to applying for a conventional loan. The time limit is often shorter (for example, 3 months) for an FHA or VA loan. In all cases, you should speak with your bank to see what is required.
Do I have to borrow to “cash out” my departing ex-spouse?
No, if you have other assets to swap, you do not need to pull out cash to pay off your ex’s equity share. You may, for instance, consider apportioning a greater percentage of your joint retirement savings or brokerage account to your ex as consideration for their equity stake in the home. If this is possible and you reach agreement, then you only need to refinance the amount remaining on your mortgage.
What if my application to refinance is denied?
If your attempt to refinance is denied, you should speak with the bank to understand why your application failed. If, for example, your DTI ratio is an issue, you may be able to pay down certain non-mortgage debt to fall within an approved range. Bank applications can be a slog, but persistence is often rewarded.
You could also wait to refinance so as to allow time for your home to increase in value, your credit score to increase, your mortgage balance to reduce, and/or interest rates to go down. There are, of course, risks – interest rates could go up further. And as long as both you and your ex-spouse are co-signed on the mortgage, any missed payments will negatively impact your credit score.
An alternative to refinancing – can one spouse assume the loan?
One possible alternative to refinancing is a “loan assumption”. This is sometimes called a mortgage transfer or mortgage reassignment.
With a loan assumption, one spouse requalifies for their existing mortgage on their own based on their assets, debts and credit score. The other spouse will be released from the mortgage. That is, you do not qualify for a new mortgage – you simply assume the existing one. There is typically no appraisal required and there are fewer closing costs.
Advantages of a loan assumption include keeping your mortgage at its original terms and—perhaps most importantly—your existing interest rate. You may also secure a clean financial break in which one spouse assumes full responsibility for the mortgage while the other is able to walk away. However, because a loan assumption does not involve a cash out component, alternative arrangements will have to be made to pay out the departing spouse’s equity stake. You may need to swap assets or look into a home equity line of credit.
Importantly, a loan assumption is only permitted in certain cases. Generally speaking, government-backed loans — such as FHA or VA loans— may be assumable. Most conventional loans are not assumable because they contain a due-on-sale clause. This clause permits the lender to demand full payment of the loan amount upon sale of the property. Loan assumptions may be possible with an adjustable-rate mortgage (ARM). You should check with your bank.
Option Three – You Continue to Co-Own the Home Together
Continued co-ownership of the family home post-divorce is gaining traction for one simple reason – interest rates are as high as they’ve been since 2001 and still rising. Due to this unfortunate reality, many couples are considering an option which was once rarely employed – “should we continue to co-own the home and defer a sale until a later date?”
What should we know about co-ownership of a home post-divorce?
Co-ownership of a home does not mean you’re going to continue living in the same house with your ex-spouse. Rather, it means you’ll continue to be joint financial owners of the home and co-obligees on the mortgage. It is, for all intents and purposes, a financial arrangement.
There are parents who choose to keep the house together to participate in a parenting relationship called “nesting.” In this case, the children remain in the home full-time and the parents trade places – one parent lives in the home with the children during a set time (perhaps a whole week, or portion of a week); and the other parent then swaps places and lives in the home during the alternate times. A nesting arrangement is most commonly utilized in the beginning stages of divorce to allow children time to adapt. It also requires that the parents secure alternative living arrangements during their “off-time”– such as a rental unit.
With a co-ownership arrangement – and regardless of whether you “nest”– you’ll need to select a later date at which you agree to sell your home. The deferred sale date might be, for instance, when the youngest child graduates high school. Or you might select different windows of time at which point you’ll confer on the feasibility of a sale given the status of your personal circumstances, the housing market and interest rates.
What are some advantages to continued co-ownership?
Co-ownership should allow your children (and possibly you) to remain in the same home which will provide stability during an uncertain time. Keeping familiar routines and surroundings can help to calm nerves and offer reassurance.
However, the most obvious advantage to co-ownership is not a matter of emotional care, but rather brass tax. People choose this option because they are underwater on their house or they are intent on keeping their low-interest mortgage. They may find it untenable, or impossible, to refinance into a higher rate mortgage on a solo salary. And there may be fears that if they sell the home, they’ll have trouble finding a suitable replacement given the status of rising rates.
What are the disadvantages to continued co-ownership?
There are many risks divorcing couples should be aware of when contemplating continued co-ownership of the family home.
First, there is the issue of financial entanglement. You do not get the “clean break” so many desire when ending a marriage. And your credit remains at risk when co-signed to a mortgage. If there is a late payment or default, your credit is at risk regardless of whether you live in the house.
Second, if you are the departing spouse, you may find it difficult – if not impossible – to qualify for a mortgage on a new home. An existing mortgage will encumber your capacity to take on new debt. Lenders, as noted, inspect your debt-to-income ratio, and an existing mortgage may be a significant debt. Consequently, as the departing spouse, you may be stuck in the rental market for years to come.
Third, there is the issue of the capital gains exclusion – especially as it impacts the departing spouse. A capital gains exclusion is available to married couples in the amount of $500,000; and $250,000 for single individuals. However, there is an important caveat – to qualify for this exclusion, you must have lived in the house for at least 2 of the past 5 years. Therefore, if you are the spouse that leaves the family home – yet continue to own it—you may not qualify for this exclusion. This means that your eventual house proceeds, which might otherwise be exempt from capital gains, will be subject to 15-20% of taxation.
Finally, there is the stark reality that courts may not approve this arrangement. Courts prefer certainty – a family home that has been sold, is pending sale, or has been refinanced. They do not embrace arrangements that are filled with contingencies and require future agreement. Co-ownership, unfortunately, lacks an exacting certainty. Without question, there are many courts that will approve a co-ownership agreement. These arrangements are on the rise. But you should be aware of the risk that a court may not approve of your agreement.
What type of agreements will we need in place to proceed forward with co-ownership?
There are many contingencies and agreements that need to be ironed out in order to co-own the family home. Here are a few examples:
- How will you pay the mortgage? Does one spouse pay the entirety; is it a 50/50, or some other ratio?
- Who pays for the utilities, insurance, taxes, or HOA?
- Who pays for general upkeep and maintenance of the home?
- Who will pay for major improvements? And how do you decide whether major improvements should be made?
- How to handle the mortgage interest deduction as an unmarried couple?
- What if the spouse remaining in the home cohabitates with a new partner or remarries?
- What if one of you dies?
- When do you agree to sell the home? What arrangements need to be in place in order to sell?
- How will you divide proceeds from the sale of the home?
Option Four – Swap the home for other major assets
This option applies when a joint mortgage is not a factor. For example, a trade of assets may make sense for the fortunate few who do not have a mortgage and own their home outright. Or, for couples in which only one spouse is on the mortgage, yet the home remains a marital asset. This option also applies if one of you wants to refinance without borrowing to cash out the departing spouse’s equity share.
In these cases, you can essentially trade assets. Perhaps one spouse receives the home, but the other spouse is apportioned the majority of retirement assets or brokerage accounts? Or the family cabin, boat and/or car? If there are enough assets to swap, you have the option to be creative when dealing with the family home.
There are few points, however, to keep in mind when trading assets:
This approach generally requires that you either value the home and other non-monetary tradable assets, or simply agree upon a value. For the home, you can secure an appraisal or speak with a real estate agent to obtain a less formal comparative market analysis.
You should also consider the tax implications of the various assets you are trading. It is worthwhile to consult with a tax consultant or CPA. There are assets, for example, that are generally not subject to tax (such as cash or home sale proceeds that fall within the capital gain exclusion). There are assets subject to capital gains but not income tax (such as brokerage accounts, stocks bonds, or home sale proceeds that exceed the capital gains exclusion). There are assets subject to income tax at the time of withdrawal (such as 401k, IRAs, and certain pensions). In all cases, you want to essentially “tax-effect” each asset so you can arrive at a fair arrangement.
Finally, you should consider future value. Your home will likely continue to rise in value over time. Financial assets – such as stocks and bonds – may increase at a different rate. Other tangible assets – such as a boat or car – may decrease in value. Anticipated growth, therefore, should be a factor when trading assets.
If you have questions about whether what to do with your family home during divorce, contact an experienced mediator and lawyer to discuss your particular circumstances. Please schedule a free consultation call, or get in touch with our firm by calling us at (216) 206-9789.