Financial Impact of Divorce

It comes as no surprise to anyone, but divorce is hard.  I mean REALLY hard.  The financial impact of divorce can be absolutely devastating.

It will rip the foundation of your life apart.  It is a difficult change, even if things have reached the point where it really is the best thing for everyone involved.  If you have children, trying to help them process it and work through their emotions, while at the same time dealing with your own feelings, it compounds.

My divorce took two and a half years from the time that we decided to split up, until the judge signed the settlement agreement and pronounced it final.

During that period, I had several other major events hit in my life:

• My best friend of 30 years died of a heart attack. He was also going through a high-conflict divorce.
• I was laid off, it took 6 months to find a new job.
• Another good friend of 16 years died from cancer.
• The startup that I joined ran out of funding, another 6 months of unemployment.
• I finished both my BS and MBA degrees.
• I took on full custody of my three children 6 months prior to the finalization.
• My father passed away from pancreatic cancer three weeks after my divorce was finalized.

My divorce was considered high-conflict.

The last couple of years have been a real doozy, both emotionally and financially.

The Best-Case Scenario

The ideal situation involves a dual-income household.  You and your spouse both are employed with a decent if not good salary.  The divorce is mutually desired and there is nothing to drive the emotional temperature to a boiling point.

This is much more of a business negotiation, where you divide up the property, split the accounts and maybe pay maintenance for some period of time.  There may also be child support involved, but that usually follows a state formula.

The lawyer fees are fairly minimal and often you can close things out for a couple thousand dollars, all in.

Everyone involved will experience a decrease in standard of living, but that is hard to avoid when the same level of income has to support two households instead of one.  The change in filing status may or may not be a large factor in this scenario, since each person has a lower adjusted gross income than the combined martial amount was before.

The Single Income Scenario

Things become a bit more complicated with a single income, where one of you has been a stay-at-home spouse.  This usually brings a higher level of stress and expense to the divorce.

The stay-at-home spouse must enter or return to the workforce.  This is very stressful.  The former breadwinner for the family will also be faced with a higher level of spousal maintenance.

This opens the door for a great deal of conflict over longer term financial entanglements and often results in a much more significant reduction in standard of living.  The total household income for a single income family is often much lower than when there is dual income.  It is much easier for two salaries to total in the six-figure range than a single salary.

Tax Cut and Jobs Act of 2017 (TCJA)

The new tax law is definitely a mixed bag, depending on where you live and the particulars of your situation.  I am not a lawyer or accountant, so this is just my perspective from dealing with it personally.

Under the new tax law, alimony or spousal maintenance, is no longer tax deductible for the person paying. This goes into effect for all divorces that finalize after December 31, 2018.

For easy calculation, let’s assume a high wage earner, with a base salary of $180,000.  Assuming spousal maintenance at 20% of gross income, that equates to $3,000/mo in spousal support.  With a single filing status, an income of $180,000 would be in the 32% bracket.  Current state spousal maintenance laws are based on spousal support being tax deductible. This creates a major issue.

The high-income wage earner would end up requiring $4,400/mo of gross income to make a $3,000/mo spousal maintenance payment.  Essentially, $1,400/mo of tax is being paid on that money.

The recipient of the spousal maintenance, assuming that is their only source of income, would be in the 12% tax bracket at $36,000 per year.  That means they would be paying approximately $360/mo in taxes.  The net result is a loss of $1,000/mo in total income that goes to support the two households.  This does not include the benefit of the standard deduction to reduce their taxable income.

Under the previous tax law, the high-income wage earner would only see their post-tax income drop by $2,000/mo in order to provide the $3,000/mo to their former spouse.

Ultimately, the TCJA is a very bad deal for families that divorce, at least from the perspective of spousal maintenance.  It just aggravates an already traumatic event in people’s lives.

Mediation Is Not Cheap

When the conflict level is high enough that you can’t sit down at the table and work out the particulars together with your soon to be ex-spouse, mediation is the normal course of action.  Many states require an attempt at mediation prior to going to trial.

While it is cheaper than going to trial, it is not cheap.

If the conflict level is high enough to require mediation, it means there are compromises that will require back and forth negotiation.  This takes time.  Consider that you will both have your lawyers in your respective conference rooms, with a mediation lawyer going back and forth trying to bring both sides to an agreement.

If you are paying each of your lawyers $350/hr plus a mediation lawyer another $250/hr, that means you are paying almost $1000/hr for the duration of the mediation.  In addition, it is quite likely that you will need to pay your lawyer their hourly fee while they are commuting to and from the location of the mediation.

This can very quickly turn into a $10,000 day against the community property.  It is very common for people to be living paycheck to paycheck. If that is your situation, it may be that those fees will be going onto a credit card at 20% interest.

Getting Wiped Out at Trial

At this point, you have attempted mediation, but could not reach an agreement.  In some states, the materials from mediation are not admissible in trial.  That means you have already eaten a few if not several thousand dollars in expenses that was ultimately flushing money down the toilet.

Preparation for trial can involve external evaluations, additional lawyers to represent the interests of the children, expert witnesses, transcriptions of recordings, depositions, and many preparatory meetings.  This can be even worse if you end up with the rare jury trial.

Even if you end up winning, the financial impact can very quickly escalate into the range of tens of thousands of dollars, if not into the six-figure range.  This can wipe you out financially for many years.

So, what is the impact?

It all depends on how high emotions are running.  What do you really want to fight over and to what extent?  There are many stories about animosity that runs high, where people fight over almost worthless items that become complete deal breakers.

How many years to do you want to be paying off debt spent on lawyers to win possession of some piece of furniture or keepsake that your ex-spouse cares about, just to stick it to them?

In my case, I was able to settle out on the second mediation and avoid trial.  However, the conflict level had been so high, I paid for a large portion of the trial preparation before we reached a settlement. I eventually gave in on some financial aspects that I really did not want to do.  However, it would have cost me more in fees then what I actually ended up giving up.

I relented on many less important issues once after resolving the key non-financial items.  Going to trial would have cost me the ability to pay for my children’s college.  That is still dicey, but I think with enough hard work I can get there and hopefully still manage a retirement someday.

At the start of the process, two and a half years ago, I had a couple hundred thousand in the bank. Now, I’m over a hundred thousand in the red with a significant cash flow issue for the time being.

For me, that has been the financial impact of divorce.

Final Thoughts

• Start the process as soon as you have decided this is the route you want to go.  It takes time, expenses rack up, and the clock doesn’t start ticking on the final maintenance payment until the divorce is final.
• Pick your battles wisely.  If something does not have sentimental value, give strong consideration to letting it go.  It is much cheaper to just re-purchase many items.  This is especially important because you may not ultimately end up wanting what you fought so hard to keep.
• Go into the process preparing for trial, even if you hope to settle.  Immediately start preparing the documentation and material you will need for trial.  You do not want to be scrambling on this as trial approaches.
• It’s going to be expensive.  Just accept that.  It’s much easier emotionally to process the cost if you go in expecting it.

Disclaimer: I am not a lawyer or an accountant.  This has been my experience and is not intended to offer specific legal or financial guidance.