I met with a client recently, and he was having some trouble with figuring out how assets get divided, and how both assets and debts are treated in property division in a divorce case. The client came in, and he had a spreadsheet showing what assets he had. This list showed things like what the house was worth, and what he owed on the house and the current values of his retirement accounts. Basically he had created a document to show his conclusions about how he thought the assets and debts in his divorce case should be divided. The spreadsheet showed how much his wife should get from the split in the divorce case as well as how much he should get. It was his proposal of how to look at all this, what the facts are and how to divide up assets and liabilities. It was useful information and it’s good to have all that ready when you’re going to meet with an attorney. However, there were some mistakes on it that were pretty common and of course they’re not his fault. How would he know how to do this, having never done a divorce before? He’s not going to have any way of knowing some of the precise rules about how to divide all this up, how lawyers do things or how judges do things and what it all looks like. There are some common mistakes you can make when looking at property division and valuing assets and debts.
One typical mistake would be, as the saying goes, comparing apples to oranges. You will want to avoid comparing two totally different types of accounts as if they were similar. Instead, you want to compare similar things to similar things. For example, let’s say I’ve got $50,000 of equity (value of the house minus the debt) in my house and I’ve got $50,000 in a savings account, and also I’ve got $50,000 in a 401(k). These are all the same number, but are not the same thing. Yes, they’re all technically worth $50,000 but they’re not all really worth the same amount as far as cash in your pocket. Let’s look at the $50,000 in savings versus $50,000 in a 401(k) retirement account, also known as a defined contribution plan. In order to access the money in the 401(k), I have to pay the taxes first. Even if I’m old enough to withdraw the money without a penalty, age 59/12, I still have to pay the taxes. There is no avoiding those taxes. If I have $50,000 in the 401(k) and I’m planning to withdraw the money, they’re going to withhold 20% before I can get my money. Now I’ve lost 20% of $50,000, which means now you have $40,000. And that is what is withheld, my actual tax rate can be even higher. So, the client in my example had decided that he would keep his 401(k), it’s worth $50,000 and his wife can have $50,000 in savings. He loses out on that deal, and now he’s behind $10,000, at least. On top of that, if he is not older than 59 ½ years of age, there is another 10% penalty. Having $50,000 in your 401(k) and $50,000 in savings, those two numbers are not equal. You will have to “tax effect” your numbers, so look at the number and take into account the taxes that are on it before you start dividing up assets. Then you can compare apples to apples.
That’s one example of how things go, and what you want to look at with dividing up assets. One other quick example would be with the equity in the home versus money in a savings account, when both are $50,000. You would want to be sure you get an accurate value on the home, either an appraisal from someone you trust, or an agreed-upon number because you do not want to be making guesses about that and then cashing somebody out. So you’ve got $50,000 in savings, that doesn’t change that is still $50,000. However, if you’ve got $50,000 in equity we want to make sure that’s really what you have. Of course if you had to sell the home, you’re going to have to pay the cost of a realtor, cost of sale to actually get your hands on the money. That creates a different issue when deciding how much that $50,000 in equity really is worth. And how about six months from now, will you have more or less equity at that time? All things you will want to consider when making decisions about a property settlement in your divorce case.