August 24, 2022

Jeff Abadie, Senior Wealth Manager and Shareholder of Sand Hill Global Advisors, joins Robyn Ginney, family law attorney and Partner at the law firm of HartGinney LLP, to discuss a common question that intersects both family law and financial planning: can I keep the primary home after divorce? They discuss the financial ramifications for keeping the family home, including taxes, property upkeep expenses, the needed liquidity to buy out your spouse, and the potential resale value of the home. They discuss the pros and cons for various financial situations to help you better understand if keeping the family home post-divorce would be right for you.

Below is a transcript of the video interview.

Jeff:

Welcome, everyone. Today, we’d like to cover a very popular and important topic that intersects both family law and financial planning, which is can I keep the primary home after divorce? My name is Jeff Abadie. I’m a senior wealth manager at Sand Hill Global Advisors located in San Francisco and Palo Alto, California. Today, my co-host is family law attorney Robyn Ginney, who’s a partner at the law firm of Hart Ginney in Oakland, California. How are you doing, Robyn?

Robyn:

Hi, thank you.

Jeff:

On today’s video, we’re going to cover a few questions from both the family law and the financial planning angles. We’ll start off with the first question and, Robyn, I’ll read the question to you and we can begin. The first question is can I legally retain the primary home in a divorce settlement and, if so, can I afford it?

Robyn:

This is probably the biggest question that we get asked in any divorce where there’s a house. Typically, one party wants to stay in the house, whether it’s because they want to have the kids with them or whether they have maybe a separate property down payment in the house. One of the considerations, and especially in this existing market, is what is the house doing. Is it increasing in value? Is it decreasing in value? Because when the house is increasing in value, everybody wants to keep the house because they see it as an investment asset. When the house is decreasing in value, we start to see a lot more people considering creative options to get bought out. We’re more likely to see the spouses making sure that the other spouse keeps the house and the mortgage and the liability associated with that asset. It really depends on where we are in the general real estate market.

Generally speaking, yes, you can keep the house, but you have to figure out what the equity in the house is. Typically, that’s by getting a fair market valuation by somebody, not a banker. Typically, they have a different valuation process than what we look at in family law, in a divorce. We want somebody who will come in and give it a fair market value so that we can determine how much equity is in the house, subtracting any existing mortgages or maybe a HELOC because the person who keeps the house is going to keep the house and assume that mortgage or the HELOC and maybe sometimes a second mortgage that’s on that house.

It really comes down to can you afford to keep the house. That’s where I like to bring in a financial planner to go over with my clients to see if you keep the house and you refinance, now the mortgage is going to be $2000 more a month. Can you actually do this? Can you actually afford this? Can you structure the rest of the settlement in a way that you can actually afford this? That’s really the long-term goal is yes, you can keep it. Is it the best option for you to keep it? Because in order to keep it, you have to buy the other person out of their equity in the house. When you’re talking about buying the other person out of their equity, you’re not considering closing costs, you’re not considering tax consequences, you’re not considering any repairs that you may or may not have to do going down the road. You’re, literally, looking at the value of the house, less the existing encumbrances, so there’s always a cost-benefit analysis that needs to be determined before you figure out if you’re going to keep the house.

Jeff:

Exactly. I think that’s where we come in is the cost-benefit analysis in regards to affordability. In our mind, the best way to explore that question is by running what we call cash flow analysis projections. There are various scenarios like keeping the house, selling the house, renting, repurchasing, all your different options, and our cash flow software considers what post-divorce life may look like as far as assets, liabilities, income, expenses. It projects those outcomes, takes into account the changes in the stock market, inflation, taxes, and the results are basically educated guesses on those various scenarios and outcomes that help give reasonable and, hopefully, realistic information to help the client determine whether or not those proposals will make sense for them and whether or not they can really afford it.

Robyn:

Having that information, from our perspective, is huge because then I can talk over with my client. I love to get the financial planner on the same call with us so that we can go through and say, “Okay, well, what if we did this? Can you run the scenarios if we did this? Can you run the scenarios if we do that?” I feel like when we’re looking at a settlement proposal, we’ve considered all of the options and the ramifications so nobody’s going into this not knowing what’s going to happen.

Also, I like the fact that after the settlement, because we’ve had these discussions, they have somebody that they can sort of move forward with once I’m out of the picture. If their financial planner has been involved with, “Okay, this is what we’re going to do and this is how we’re going to structure everything,” that’s huge.

Jeff:

Right. Definitely. Exactly. What if scenarios and trying to understand the proposals and what they mean for them long term?

Robyn:

Yeah.

Jeff:

Great. Well, that’s our number one question. And then, we often get another question which are, basically, what are the pros and cons of keeping the home that I should be considering?

Robyn:

I talked a little bit about this, that when you’re keeping the house and buying the equity out, you’re looking at straight equity, not any speculative costs. One of those speculative costs that is not so speculative is the tax consequence when you actually sell the house down the road. That is, there are certain benefits that you get when taxes come around, that you can deduct $250,000 individually against the gains, right now. That may change next year or whenever you decide to sell the house. But if you sell it when you’re still married, you both get that 250 against the gains. That’s something that you have to consider that you’re going to buy your spouse out at X, but when you sell the house down the road, not only are you looking at maybe subjective gains or losses in the housing market in general, but you’re looking at X minus that $250,000 that you’re going to be able to deduct against your 250, but you’re losing their 250. That’s a significant tax consequence that a lot of people don’t factor into the whole analysis.

Other problem we see a lot is the only other large asset that people have to use to buy the spouse out is usually a 401(k) or an IRA which, again, there are tax consequences associated with using a 401(k) that are kind of similar, but not really to the tax consequences of keeping the house. Because if you’re taking a 401(k), you’re looking at there are immediate and specific tax consequences to early withdrawal penalties and the taxes associated with that that are much easier to determine than if you’re looking at the tax consequences for the sale of the house, because you don’t really know what you’re going to get for the house whenever you sell it in the future. It’s really difficult to say, “I’m just going to take $500,000 out of my 401(k) and buy my spouse out of $500,000 in equity in the house,” because the tax consequences and how we look at that exchange is different.

Jeff:

We think of the same concerns there. But when thinking of the pros, a lot of people, the pros are easy. There are less instability, less disruption, at a time that’s very tough time for the person and the family. To your point, real estate generally appreciates over time so, over a longer time period, it could be very beneficial. In some cases, it could be that trading, selling a home, and buying into a new market, a more expensive market, may not be as ideal. The pros are those. The cons a little… You had mentioned some of them, but while real estate can appreciate in the long term, it can also depreciate in the short term. If the plan is to really hold on for just a few years, you can find yourself selling into a downturn. Also, real estate is illiquid and, therefore, you’re often having to trade liquid assets like the 401(k) for an illiquid asset. That would impact people differently depending on their income situation.

Also, you need that income to carry the cost of this home. Again, going back to the cash flow planning to understand, can you afford the home? The $250,000 capital gains exclusion that you had mentioned versus having 500 selling it jointly is a big consideration that you had mentioned. One other one that I think often gets overlooked is just if there’s a mortgage, it often, or maybe always, needs to be refinanced in order to update the title to the new sole owner and that can have huge impacts for the person if they don’t qualify or you’re in a higher interest rate environment like we are now than maybe you were when the mortgage was put in place. Those really have to be looked at before considering keeping the home.

But generally speaking, if the plan is to remain in the home for a very long period, there’s no mortgage, and all the cash flow planning checks out, meaning income can support the house and everything else, then there’s a strong argument that keeping the house would make sense. But if those things do not check off, then you have to look very closely to make sure it makes sense to do so.

Robyn:

A lot of the time, some of the pros that we get are that they want to keep the house for the kids, either because the kids are young or because they want to use that as sort of a longer-term investment strategy for the kids. The kids are going to college and they want to have this sort of rental property in the future, that sort of thing. But it’s always a concern when you’re trading an interest or an appreciating asset for something that has ties to it. There’s property taxes. There’s long-term deferred maintenance. There’s maybe you need a new roof. It’s never a free ride to keep the real property.

Jeff:

Right.

Robyn:

There’s always something to consider when you’re looking at that.

Jeff:

Exactly. The carrying costs need to be able to be comfortably handled in order to get those long-term benefits that you mentioned that they’re thinking about. Yeah, that’s correct.

Robyn:

Exactly, yeah.

Jeff:

All right. That brings us to our third question. If someone is trading assets for the home in a settlement negotiation, how do they know which are the best or the worst for them when considering what to trade for?

Robyn:

That’s a question that I get asked a lot, but I prefer to defer that to whoever they’re working with as a financial planner. That really depends on where are you in your career. Where are you health-wise? Do you have other investments? Do you have other income? Are you retiring soon? There’s a lot of different factors that go into, like I was talking about, whether you’re going to trade an interest in your 401(k) against the house. Is this an older house? Is it a newer house? There’s a lot of different considerations that need to be taken into consideration if you have even just stocks. There’s gains on the stocks. There’s capital gain. There’s short-term and long-term. If you’re dividing the stocks, you want to take the long-term gains against the house.

It’s never just as easy as taking a pool of money and putting it against the house and there you go. That’s always a question that I feel is best answered in tandem with whoever is doing the financial planning. Let’s get them involved in those questions so that we can figure out what’s the best long-term solution.

Jeff:

Exactly. I mean, I would say what you said, which is each asset that you’re going to trade has its own unique tax liability, its own price volatility, and its own liquidity or ability to be sold. Therefore, understanding a person’s cash flow, their time horizon, their risk tolerance, all of that would determine what makes the most sense.

An example would be if someone was a high-income earner with a long time horizon, a high tolerance for risk in volatility, they would be able to handle an illiquid and highly volatile asset in return for the house or whatever the case may be. Whereas, someone more conservative, little or lower income coming in and a lower risk tolerance, would benefit more by having a more conservative portfolio that has far more liquidity. Again, a deep dive into the unique assets that are being traded, but really a close look at the person accepting the assets just to make sure it makes sense for them.

Robyn:

Yeah. Especially if you’re looking at something like RSUs, something that’s fairly sophisticated and you have somebody who is not fairly sophisticated with their experience with handling finances. You wouldn’t want to get somebody who has never really been involved in the finances involved in a really complicated asset trade that now they have to manage and they’ve never done that before. You never want to put them in that position either.

Jeff:

Exactly. That’s correct. And then, our final question is when beginning the process of this divorce, what is basically the best time to involve both an attorney and a financial advisor? What would be your answer, Robyn?

Robyn:

In a divorce process, there’s basically three steps. There’s the starting of the divorce, and then the second step is the sort of show me your cards stage. That’s when we start talking about what are the assets that are there, what are the debts that are there, and trying to figure out what we’re actually dealing with. This is the second stage that creates the most problems, but this is also the stage where we figure out what the third and final stage is going to be, which is the judgment. That’s the thing that solidifies how everything is divided, the tax consequences, all that sort of stuff.

I would want to bring in a financial planner, a CPA, whoever my client is comfortable working with, at that second stage when we’re talking about what is here. How is it being managed now? Where is it? If you have a brokerage account, what does that look like? What’s in that brokerage account? Is it all Tesla? Is it Apple stock from 15 years ago? What are we looking at when we’re looking at those? When we’re talking about dividing it, I put everything on the spreadsheet, sort of go through it, but it’s always helpful to get somebody who is familiar with the assets that the clients already have, that maybe they’re already managing it, and can talk with us about strategizing like we were talking about and how to divide it and who should get what and what would make the most sense. It would be fairly near the beginning, like the first month of the divorce, if not sooner.

Jeff:

Obviously, the sooner, the better. We sort of see sort of two periods. One would be maybe the first or second that you’re talking about. As the process gets going, obviously, we’re better able to help gather the information and do the cash flow analysis to understand what maybe some of these proposals may be that are being thought of and just better prepare the client to contemplate and understand what may be coming their way. That’s all sort of pre-settlement and we’re able to just add more to the conversation if we come in at that point.

But sometimes we are brought in after the settlement has been agreed upon, and it’s more about execution and that’s very important part too. We help clients consolidate those assets that are often spread over a lot of different custodians, make sure they come over correctly, which isn’t always the case. Titling and beneficiary titles are updated and correct. Also, just getting them set up for life post-divorce and customizing the investment assets to make sure that there’s a proper setup that’s really going to work toward their financial goals on their own after the divorce. Obviously, the sooner the better, but even if it’s slightly after the settlement, I think there’s still a lot of value that a financial advisor could add at that point.

Robyn:

Yeah. I think it’s really helpful.

Jeff:

All right. Well, those were the four big questions that we get. Robyn, do you have any other pieces that you’d like to share?

Robyn:

No. I would like to touch a little bit on you just talked about the beneficiaries. That’s so huge to make sure that the title to the house is transferred in the way that reflects whatever the agreement was in the judgment and that the beneficiaries get changed on the assets that they’re awarded. If anybody can help with that, that’s always better to have somebody make sure that you didn’t mess that up because that’s one of those things that gets overlooked a lot.

Jeff:

Right. Yeah, I mean, if you’ve come off and you’ve fought hard for a good settlement, you want to make sure it all gets executed as intended so that… Yeah, definitely.

Robyn:

Yes.

Jeff:

Well, great. Well, thank you so much, Robyn, that does it for our Q&A video. We hope you, the viewers, found it helpful. If you have any questions, please feel to reach out to either of us and we appreciate your time. Thank you so much.

Robyn:

Great. Thank you for having me.

*****

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