What is the Financial Impact of Divorce?
Divorce can significantly alter one's financial landscape. Understanding these changes is crucial for navigating the challenges ahead.
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What Statistics Say
Divorce statistics can reveal a lot about how marriages end and the factors influencing these outcomes. Here's a closer look at what the numbers tell us in 2024.
Key Divorce Statistics in 2024
In 2022, there were 673,989 divorces and annulments across 45 U.S. states. During the same period, there were 2,065,905 marriages, resulting in a marriage rate of 6.2 per 1,000 people. Although many people marry each year, a significant number also divorce, shedding light on when and why marriages dissolve.
Source: National Center for Health Statistics
Income Changes
Divorce often means moving from a dual-income household to a single-income one. This shift can be particularly challenging for those who earned less or were out of the workforce. For many, adjusting to the cost of living independently is a significant hurdle. The immediate impact is often felt in the standard of living, which can drop considerably.
A 2012 study from the U.S. Government Accountability Office revealed that women's household income typically plummets by 41% post-divorce, nearly twice the financial impact experienced by men. However, more recent data paints a different picture. According to Guillaume Vandenbroucke, an economist and senior economic policy advisor at the Federal Reserve Bank of St. Louis, men have sustained higher average income losses after divorce than women. In 2022, women's income fell by 9% following a divorce, while men experienced a 17% decrease. This difference is most pronounced in their 30s, where men lose close to 40% of their income post-divorce, while women lose noticeably less.
These income changes highlight the financial vulnerability that can follow a divorce, particularly for those who may need to re-enter the workforce or increase their earning potential. It underscores the importance of financial planning and seeking professional advice to manage the transition effectively.
Retirement Accounts
Dividing retirement accounts during a divorce can be complex. These accounts, like 401(k)s, IRAs, and pensions, often need to be split between spouses. Contributions made before the marriage usually stay with the original account holder. But contributions made during the marriage, plus any investment earnings, are considered marital property and must be divided.
The method of division depends on state laws. In community property states, all marital property is split 50/50. In equitable distribution states, the court decides how to divide assets based on various factors like the length of the marriage, each spouse’s income, and contributions to the marriage.
For 401(k)s, a Qualified Domestic Relations Order (QDRO) is used to divide the account without penalties. IRAs are divided under the divorce decree, and the process varies for traditional and Roth IRAs. Pensions are also split using a QDRO, based on the time the marriage overlapped with the employment period.
Other Financial Assets
Divorce affects more than just your income and retirement accounts. It also impacts other financial assets like investments, savings accounts, and personal property. Dividing these assets can be tricky, especially when they include things like business interests or valuable artwork.
State laws play a big role in how these assets are split. In some states, everything gets divided 50/50, while in others, the court decides what's fair based on various factors.
When it comes to assets like a business or art collection, figuring out their value can be a challenge. You might need a professional appraiser to determine their worth. This adds extra costs and can delay the divorce process.
For example, if you and your spouse own a business together, you’ll need to know its exact value before you can split it. This might mean hiring a business valuation expert. Similarly, if you have valuable art, jewelry, or antiques, an appraiser can help determine what each piece is worth.
After getting the valuations, you and your spouse, or the court, will decide how to divide these assets. Sometimes, it makes sense to sell them and split the proceeds. Other times, one spouse might keep an asset and compensate the other with cash or other assets.
Home Ownership
Deciding what to do with the family home can be one of the most emotional and financially significant decisions in a divorce. You have a few options, each with its own set of considerations.
One option is to sell the home and split the proceeds. This is often the simplest solution but can involve capital gains tax if the profit exceeds certain limits ($250,000 for an individual or $500,000 for a couple). Selling might also mean saying goodbye to a place filled with memories, which can be tough emotionally.
Another option is for one spouse to buy out the other’s interest in the home. This means determining the home's current market value and the buying spouse securing enough financing to pay the other spouse their share. This route allows one person to stay in the home, which can be beneficial if children are involved and stability is a priority.
A less common but possible option is maintaining co-ownership of the home. This might work if both spouses agree to keep the home for a certain period, often to provide stability for children. This arrangement requires a clear, legally binding agreement on who pays for the mortgage, property taxes, and maintenance costs.
Each of these options has its pros and cons, and the right choice depends on your financial situation and personal preferences.
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Credit Score
Divorce can indirectly affect your credit score, so managing joint accounts carefully is crucial. Here’s how it works and what you can do to protect your credit.
When you divorce, joint accounts need special attention. If both names remain on an account, both parties are responsible for payments. Missed payments or increased debt can harm your credit score. To avoid this, try to close or separate joint accounts as soon as possible.
Closing joint accounts, especially those with long histories, can impact your credit score. Long-standing accounts contribute positively to your credit history. When you close them, you lose that positive history, which can lower your score. To mitigate this, keep some long-term individual accounts open and in good standing.
If you can't close a joint account immediately, ensure both parties agree on managing payments. Set clear responsibilities and stick to them to avoid any negative impacts on your credit.
Consider monitoring your credit report regularly during and after the divorce process. This helps you spot any issues early and address them before they affect your credit score.
Debt
Divorce often means dealing with shared debts. How these debts are divided depends on the state you live in.
In community property states, debts accumulated during the marriage are considered joint responsibilities. This means both spouses are equally responsible for paying off the debt, regardless of who incurred it.
In equitable distribution states, the courts aim to divide debts fairly, not necessarily equally. The judge considers various factors, such as each spouse's income, who benefited from the debt, and each person’s ability to pay it off. This approach can result in one spouse being responsible for a larger portion of the debt if it's deemed fair based on the circumstances.
For example, if one spouse took out a loan for a personal business that only they benefited from, the court might assign a larger portion of that debt to them. Conversely, if a debt was used for household expenses or family benefits, it might be split more evenly.
To manage this process, it's crucial to list all debts and provide clear documentation. This helps the court make informed decisions and ensures a fair distribution.
Tax Status Changes
Divorce means you have to change your tax filing status, which can affect your tax rates and standard deductions. If you previously filed jointly, you'll now need to file as either single or head of household. This shift can have a big impact on your tax obligations.
Filing as single is straightforward if you’re not married by the end of the tax year. However, if you qualify as head of household, you might get a higher standard deduction and more favorable tax rates. To file as head of household, you must pay more than half the costs of maintaining your home and have a qualifying dependent, like a child.
For 2024, the standard deduction for single filers is $14,600, while it’s $29,200 for those married filing jointly. Filing as head of household provides a deduction of $21,900. This change can significantly affect how much you owe in taxes or the size of your refund.
Besides the standard deduction, your tax bracket might change. For example, income that was taxed at a lower rate when filed jointly might now fall into a higher tax bracket when filing as a single or head of household.
Child and Spousal Support
Child support and spousal support are crucial components of divorce that help ensure financial stability for both children and the lower-earning spouse.
Child Support
Child support ensures that children’s needs are met after a divorce. It covers costs such as housing, food, clothing, education, and healthcare. The amount of child support is typically based on both parents' incomes, the number of children, and custody arrangements. Each state has its own guidelines and formulas to calculate the appropriate amount of support. The goal is to maintain the child’s standard of living and ensure they receive adequate care from both parents.
Spousal Support (Alimony)
Spousal support, or alimony, provides financial assistance to the lower-earning spouse. This support helps maintain a standard of living similar to what was experienced during the marriage. The amount and duration of spousal support depend on various factors, including:
The length of the marriage
Each spouse’s income and earning capacity
The age and health of both spouses
The standard of living established during the marriage
Contributions made by each spouse during the marriage (financial and non-financial)
There are different types of spousal support:
Temporary Support: Provided during the divorce process to help the lower-earning spouse manage living expenses.
Rehabilitative Support: Intended to support the lower-earning spouse while they gain education or training to become self-sufficient.
Permanent Support: May be awarded in long-term marriages where one spouse may never be able to achieve self-sufficiency due to age or health.
Courts aim to balance the needs of the receiving spouse with the paying spouse’s ability to pay. Agreements can be modified if there are significant changes in circumstances, such as a change in income or financial needs.
Insurance
Divorce can significantly impact your insurance rates and coverage. Here's how:
Auto and Home Insurance
After a divorce, discounts you received as a married couple typically disappear. This often leads to higher premiums. For instance, auto insurance companies offer lower rates to married couples because they are statistically less likely to file claims. Once you’re single, expect your premiums to increase. It’s a good idea to shop around and compare rates from different providers to find the best deal post-divorce.
Health Insurance
Health insurance is another area heavily affected by divorce. If you were covered under your spouse’s employer-sponsored health plan, you would need to find new coverage. You have several options:
COBRA: This federal program allows you to continue your ex-spouse’s health insurance for up to 36 months. However, it can be expensive since you’ll be paying the full premium without employer contributions.
Marketplace Plans: You can purchase a plan through the Health Insurance Marketplace. Divorce qualifies you for a Special Enrollment Period, allowing you to sign up for coverage outside the usual enrollment times.
Employer-Sponsored Plans: If you have a job that offers health insurance, you can enroll in your employer’s plan. Similar to marketplace plans, divorce triggers a Special Enrollment Period for employer-sponsored insurance.
Life Insurance
You might need to update your life insurance policy after a divorce. If your ex-spouse was the primary beneficiary, you may want to change this designation. Additionally, if you’re required to pay child or spousal support, maintaining a life insurance policy with your ex-spouse as the beneficiary can ensure financial support continues if you pass away.
Other Considerations
It’s also essential to review any other insurance policies you hold, such as disability or long-term care insurance, to ensure they still meet your needs post-divorce. You may need to adjust your coverage levels or beneficiaries to reflect your new circumstances.
When to Seek a Fiduciary Advisor
Navigating the financial complexities of divorce can be overwhelming. This is where a fiduciary advisor can be invaluable. A fiduciary advisor is legally required to act in your best interests, providing unbiased advice tailored to your situation. Here are key times when you should consider seeking their help:
During the Divorce Process
Asset Division: An advisor can help you understand how to divide assets fairly, including investments, retirement accounts, and property.
Debt Management: They can assist in managing and dividing debts, ensuring that both parties take on a fair share and that your credit remains intact.
Tax Implications: Divorce can significantly change your tax situation. An advisor can help you navigate these changes, potentially saving you money.
Post-Divorce Financial Planning
Budgeting: Adjusting to a single-income household can be challenging. An advisor can help you create a realistic budget that reflects your new financial reality.
Retirement Planning: They can assist in recalculating your retirement goals and adjusting your plans to ensure you stay on track.
Investment Strategy: Your investment strategy may need to change post-divorce. An advisor can provide guidance on the best way to manage your portfolio.
Long-Term Financial Health
Insurance Needs: Divorce can affect your insurance needs, from health and life insurance to home and auto policies. An advisor can help you find the right coverage.
Education Savings: If you have children, an advisor can help plan for their education expenses, ensuring that their future remains secure.
Estate Planning: Updating your will and estate plan is crucial after a divorce. An advisor can guide you through this process to ensure your assets are distributed according to your wishes.
Major Life Changes
Remarriage: If you remarry, a fiduciary advisor can help integrate your new spouse's financial situation with your own, ensuring a smooth transition.
Career Changes: Whether you’re returning to work, changing jobs, or starting a business, an advisor can provide the financial planning you need to succeed.
Bottom Line
Divorce has far-reaching financial implications, from income and asset division to tax status and insurance coverage. Careful planning and professional advice can help mitigate these impacts and ensure financial stability post-divorce.
If you're navigating a divorce and its financial implications, consider consulting a financial advisor to help you manage these changes effectively. Find a qualified advisor at ONE Advisory Partners today to get started on securing your financial future.
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Reference
Forbes Advisor. Revealing Divorce Statistics In 2024
Tax Foundation. 2024 Tax Brackets
U.S. Department of Labor. FAQs on COBRA Continuation Health Coverage for Workers
U.S. Department of Labor. FAQs about Qualified Domestic Relations Orders
National Center for Health Statistics. Divorce Rates by State: 2019-2022