The liabilities and debts you and your spouse accumulated during the marriage should all be assigned, paid, or handled in some manner as part of your divorce settlement. The debts should include all credit cards, mortgages, car loans, home equity lines of credit, and other types of consumer loans. If you or your spouse is a small business owner, be sure to address any personal guarantees you signed for business loans, lines of credit, or to secure any account payable of the business.
Consider the debts in your name, your spouse's name, and your joint names. These debts affect your marital estate in two ways: debt reduces the gross value of assets and increases the expenses of the person assigned the responsibility for payment. Also, debts incurred during a marriage, but not paid or assigned at the time of the divorce, often create problems for one or both ex-spouses after the divorce.
The laws of each state vary about which marriage partner is responsible for certain debts, depending upon when the debt was incurred, the identity of the debtor, or the purpose of the debt. Some states have a presumption about who is responsible for a debt based upon whether spouses incurred the debt after a separation, after filing divorce papers, or after signing a settlement agreement. Under these three scenarios, the party who incurred debt is responsible for its payment. Still other states presume that debts incurred before the divorce are marital debts. If you live in a community property state, any debt you or your spouse incurred during the marriage, regardless of who incurred the debt, is a marital debt for which the creditor can hold both of you liable. Check the laws of your state to determine how they will impact your responsibility. No matter what your state's presumption is, the debt influences several issues in your divorce, including spousal support, child support, and the division of property.
From a creditor's viewpoint, a debt incurred by both spouses during the marriage or debts incurred on a joint credit card or line of credit during a separation -- and in some cases even after a divorce -- are the responsibility of both people. The creditor does not care how a divorce judgment assigns the debt. The creditor just wants the debt repaid by the people who promised to pay when the lender made the loan.
A common example of this situation is when spouses have joint credit cards during the marriage and one spouse uses the credit card during the separation. The spouse who didn't incur the debt should not be liable for paying it. However, the credit-card company could seek payment from both people if the credit-card charges were not paid.
It's also possible for a creditor to hold an authorized user or an unauthorized user, such as a person who signs the charge ticket, responsible for the repayment of a credit card or other debt. Another possible circumstance, although a very unlikely one, may enable the creditor to seek payment from an unauthorized user if the charges were to provide necessities of life.
As you can probably tell, the creditor is going to get its money from anyone who can possibly be held liable for the debt. That's one of the reasons why it's imperative for you to take steps before the separation and divorce to protect yourself from potential abuse of your credit. This is also the time to address repayment of all your current debt -- including credit cards.
There are two methods to handle joint debts in your divorce: you can assign the debt to a responsible spouse for payment or, the most effective method, repay the debt in full prior to the divorce. The effectiveness of an assignment situation can be increased if a creditor will release the spouse not responsible for payment from the debt. This release is usually very difficult to obtain from the creditor.
Assignment of Debts
Before you agree to the assignment of any debt, be sure to consider what, if anything, is security for the obligation. If an asset such as a car is security, the spouse who gets the car should also be responsible for paying the debt associated with the car. If a debt -- such as a signature loan or credit-card charge -- is not secured by property, be sure that you assign it to whomever is more financially reliable or capable of paying the debt. If you don't want responsibility for the debt and you don't believe your ex-spouse will pay it for one reason or another, plan to pay the debt in full prior to the divorce.
If neither you nor your spouse has sufficient income to pay off the debt, you can sell an asset and use the money from the sale to pay the debt. Once you have paid the debt in full, remember to save the receipts as proof that the creditor is no longer owed any money.
Bankruptcy and Divorce
Occasionally after a divorce, an ex-spouse assigned responsibility for paying joint debt files for bankruptcy. State divorce courts and federal bankruptcy courts have concurrent or equal jurisdiction (authority) over the property of spouses or ex-spouses. Divorce courts have the power to assign the responsibility for payment of debts to one spouse. Bankruptcy courts have the power to discharge or release the spouse from paying them.
When this happens, the bankruptcy court releases the ex-spouse -- whom the divorce court assigned the debt to -- from having to pay the debt. This prevents the lender from collecting the debt from that person. The lender or credit-card company still has the other ex-spouse's name as a responsible payor, and the creditor expects the other, innocent spouse to pay the debt. That spouse soon discovers there's not much he or she can do to collect the money to pay the debt from the defaulting ex-spouse. The choices are to file for bankruptcy, have the unpaid debt on a credit report history, or pay the debt and chalk it up to experience.
You can avoid or reduce the possibility of this happening to you by structuring your separation agreement to take bankruptcy into consideration. A divorce court judge may be able to do the same thing with a divorce judgment. If you believe that your spouse may file bankruptcy or has threatened bankruptcy, be sure to discuss the drafting of the agreement or court order with your lawyer. A bankruptcy court will not discharge a debtor from paying child support or alimony. In some cases, it might not discharge a debtor for certain property liens or payment of obligations paid by the debtor for the benefit of the other spouse.
An example of what can happen occurred in the case of Mr. and Mrs. B. Both Mr. and Mrs. B signed a car lease prior to the filing of the divorce. In the divorce settlement, Mrs. B accepted responsibility for paying the lease and received possession of the car. Afterwards, Mrs. B discovered she couldn't make ends meet and fell behind in payments on many of her debts, including the car lease. She filed for bankruptcy, and the bankruptcy court released her from the responsibility for the lease payment. Mr. B, on the other hand, still had an obligation to the leasing company and it sued him for payment. The bankruptcy court's suggestion to Mr. B was to file bankruptcy, if he qualified, to obtain relief from the lease.
Negative Value Assets
Another situation that frequently happens in a divorce is when an asset is security for a loan, but the value of the asset is less than the debt. You could call this a "negative value asset." Typically, this type of asset is a car, boat, or on occasion, real estate.
You must decide if you or your spouse get the asset and its underlying debt, or if it's best to sell the asset and use the sale proceeds to reduce the debt. In that case, you could then assign any remaining debt to either you or your spouse or you could split it between you.
In some instances, the use of the asset may mean more than being relieved of the debt. It all depends upon the needs that you and your spouse have or on the terms of your settlement in total.
Credit and Re-establishing Credit
As a part of your divorce planning, get a copy of your credit report from each of the three major credit reporting agencies. The Yellow Pages should contain local or national numbers you can call to obtain a copy of your credit report.
The three major credit reporting agencies are Experian, Trans Union, and Equifax. You can contact each at:
Unless you have recently been denied credit, you have to submit your request in writing with a photocopy of your driver's license and proof of your current residence address. The agency also needs your full name and current address, your spouse's full name and address, and both of your Social Security Numbers. The agencies all charge a minimal fee. Use the following list as a guideline to prepare your request for a credit report:
Once you receive the credit report, list all of the debts that are shown on your report as delinquent, past due, or written off. Contact each creditor for more information about the debt and make arrangements to have the debt paid as a part of your divorce settlement. If you do not settle your case, ask your lawyer to make the court aware of the credit problems and ask for a divorce order that assigns those debts.
Use the following list of questions as a guide for identifying all of the credit cards you and your spouse presently have. If you are unsure about what to answer for each query, contact each credit card at a customer service number for the information. Prepare a worksheet for each card. This helps you decide which cards to cancel, if you should transfer an account balance to a different or new account, or what card balances you and your spouse should each pay after the divorce.
Queries for each card are:
This information is particularly important if you are the primary or only card holder and are in a position of being unable to get a new credit card if you cancel your present card. By assigning the debt appropriately, you can retain an existing account and use it to start rebuilding or maintain your good credit rating.
Re-establishing of your credit after your divorce is as important as taking care of your credit before the divorce. This task is easy if you earn a comfortable income and had a good credit rating prior to the divorce, but becomes much more difficult if your credit has suffered during the divorce or you didn't have a credit rating of your own prior to the divorce. A dependent spouse without a credit rating has likely been unemployed throughout the marriage, is without credit cards in his or her name, and has not sought credit in the past.
If the re-establishment or establishment of credit is a problem for you, there are some steps you can take. First, open a bank account in your name -- preferably both a checking and a savings account. Next, you need proof of income from either employment, child support, spousal support, assets, or a combination of any of the four. Then apply for a credit card through a bank or a local department store. The final step is to use the card wisely and pay the balances in a timely manner. This is the beginning of the process of acquiring a good credit rating.
Be sure to use the credit card. You probably won't establish any credit rating by just having the credit card; you must use it and pay the bills in a timely manner. If your present credit rating is not the best and nobody will approve a credit card for you, don't give up hope. Explore the possibility of depositing some money with your bank to use as collateral for a credit card issued through your bank. The bank usually requires you deposit money into a Certificate of Deposit. You earn interest on the deposit, but you are unable to withdraw the funds. The bank generally limits your credit maximum to the amount of money it's holding as collateral for the charges you make on the card.
Too Much Debt, Not Enough Money
All of the solutions described in the preceding paragraphs won't help you if your monthly debt payments exceed your net monthly income. Don't despair: there are still some positive actions you can take. Contact each creditor to try to work out a repayment schedule you can afford, or seek the services of a reputable credit counselor. You could also transfer balances on high-interest credit-cards to a card that has a lower monthly interest rate. Before trying this approach, be sure to find out if there are any fees, adjustments in rates, and how the issuer calculates the interest it charges on any unpaid balance. Credit-card companies have become very good at figuring out methods of enticing customers away from other companies by offering special deals that are not so special when you look behind their low-interest offers. However, for a short-term solution, this plan may be of great help.
More Credit Help
There is a nonprofit organization called the Consumer Credit Counseling Service (CCCS) that helps people with credit and financial problems. Their services are free or provided at a low cost to certain individuals. Their counselors help you analyze your financial situation and in severe cases set up and help you administer a debt management program.
There are over 1,000 Consumer Credit Counseling Service offices throughout the United States. If your telephone book doesn't list a number for a local office, call the national referral line at (800) 388-2227.
Lawyers and Credit
The advice you receive from a credit counselor may be inconsistent with the advice from your divorce lawyer. During the divorce process, lawyers like to plan strategies to position their client in a certain financial posture for settlement negotiations or a divorce trial. Their advice may not be good credit advice, but could be good advice for a divorcing spouse in certain situations.
To explain the lawyer's reasoning about an issue such as this, read about Mr. and Mrs. P. She was a dependent spouse and her husband was a business executive earning a very lucrative income. Mr. P's lawyer was concerned that if Mr. P paid for Mrs. P to live in the family home in the lifestyle she was accustomed to, it would establish a precedent the trial court would use to determine spousal support. Therefore, his lawyer advised him to only pay for certain items -- like the mortgage and utilities -- and to put his soon-to-be ex-wife on a tight budget for her other expenses. Under the new budget, Mrs. P didn't have the same amount of money as before. She either had to find a job to supplement the money she received from her husband, reduce her lifestyle, or go into debt.
Her lawyer's concerns were twofold: if Mrs. P got a job, it strengthened the husband's position for not paying spousal support after the divorce; and if she reduced her lifestyle too much, the amount of money she needed to provide for her support could likewise be reduced. The lawyer advised her to continue spending money as she did before the separation, using credit cards and loans from family members to augment the funds she received from her husband. In the end, Mr. and Mrs. P settled their divorce and handled the debts in a manner that they both agreed upon.
The ending achieved by Mr. and Mrs. P doesn't happen all the time. There are many more sad stories where both parties end up with more debt than either of them can comfortably afford to pay. If you and your spouse have a similar situation, ask your lawyer for advice about the matter. Discuss all your options and the reasoning behind them. Then choose what you believe is appropriate.
Look before you leap
Before you actually take any action to resolve any questions you have about credit, debt or other financial matters, consult with your lawyer or financial planner. Write down your questions and gather any documents that would explain your concerns. The common thread to getting good answers to all your questions is to gather documents, write down your thoughts, and think about your questions before you ask them.
Don't base your demand for reimbursement, credit, or payment only upon your personal statements. Get the facts and documents to back up your allegations and organize your documents. Your information should support your objectives and goals, keeping in tune with your planned method of approaching the divorce and, hopefully, keeping hostilities at a minimum. Remember, the quickest way to go into major debt during a divorce is to pay the lawyers to fight and argue about things that you and your spouse should decide.
This article has been edited and excerpted from Divorce Strategy: Tactics for a Civil Financial Divorce by Laura Johnson. This step-by-step guide gives you the tools and information you need to plan and manage your financial divorce, helping you to reduce -- and in some cases eliminate -- the negative financial consequences often associated with divorce. The book is available at better bookstores, as well as on-line at www.smartdivorce.com.
Certified Divorce Financial Analyst
Business Valuators / CPAs