Independent Thinking^®

Divorce: Planning and Investing for a Positive Outcome

Every divorce is unique, but no one needs to feel alone in the experience. Building a team of advisors, including an attorney, an accountant, and a wealth management advisor, is the first step in working to a positive outcome – and a fresh start.

PRE- AND POST-NUPTIAL AGREEMENTS

Like most preventative measures, pre- and post-nuptial agreements can feel difficult in the present, but they can save a lot of grief in the longer term. Please see below for a brief overview.

MEDIATION, COLLABORATION OR LITIGATION?

There are typically four types of divorce proceedings: self-settled divorce (no attorneys, no mediators), mediated divorce (no attorneys, but a qualified mediator representing both spouses), collaborative divorce (each spouse hires their own attorney but divorce proceeds outside of court), and litigated divorce (both spouses hire attorneys, and the case is presided over by a judge in court). In any case, it is wise to meet with an accountant and wealth advisor in conjunction with legal counsel.

GEOGRAPHY

Each state has different rules and case law governing divorces and asset settlements. Within the nine community property states, for example, assets are deemed community or separate property of one spouse, and all community property will typically be divided equally.¹ Conversely, equitable distribution states split all assets, earnings, debts, and property in a division in a manner meant to be fair but not necessarily equal.

TAKING IT TO THE NEXT LEVEL

Custody of minor children or any suspicion of nefarious activity and hidden assets should be discussed with an attorney.

KNOWLEDGE IS POWER

The most important starting point in a divorce negotiation is to build a firm understanding of the current balance sheet and income statement. A wealth advisor and a tax specialist can help identify and value assets and liabilities, as well as income and expenses. The chart below can serve as a primer of the types of assets you may identify, but this will vary from individual to individual.

EQUAL MAY NOT MEAN EQUITABLE

Some assets, like homes or artwork, cannot be split, and so adjustments are made to the division of other assets to adjust for those values. This is a potential pitfall for many divorcing spouses, as personal preferences may drive decisions that undermine future lifestyle spending.
 
A thorough understanding of attributes of various types of assets is required before deciding what makes sense for each individual. For example, the family home may prove expensive, with carrying costs including local property taxes, insurance, maintenance, and repairs. Selling it later may incur substantial transaction and tax costs not accounted for in the divorce settlement. Further, once a divorce is finalized, the spouse that retains the primary residence loses their former spouse’s potential capital gains exemption (currently $250,000). Assets should be evaluated on a net basis and in the context of an individual’s income, liquidity, and risk profile.
 
Here’s another example: The inherent value of an IRA, which is not accessible without penalties until age 59½ and is taxed as ordinary income when distributed, is not equal in value to a brokerage account invested in fully liquid securities taxed at capital gains rates. Similarly, a brokerage account invested in equity securities with a large, embedded capital gain and low income yield does not have the same tax implications, income generation or risk profile as a portfolio comprised of municipal bond securities generating tax-exempt income.
 
It is also important to identify and review assets that may hold little value now but could be worth more in the future. Some are more easily valued, such as restricted stock units vesting over time, while others may not be so, such as interests in a private company that could be headed toward a liquidity event. Even if the current value is negligible, analysis should be given to potential future value of the assets before they are dismissed as part of the asset split.
 
Balance sheet items outside an individual’s taxable estate are also important to incorporate in divorce planning. If either spouse is a beneficiary of an irrevocable trust with distributions that benefited the marriage, this may be considered as part of the negotiation around alimony and maintenance payments. Parents should consider whether any accounts have been set up for their children’s education or future benefit, such as 529 plans, Uniform Transfers to Minors Act accounts, or UTMAs, and irrevocable trusts.

PLANNING FOR FUTURE EXPENSES

In negotiating alimony payments and asset splits, it is important to identify current lifestyle costs, on a pre- and post-tax basis. Some expenses may decrease post-divorce while others, such as healthcare insurance or housing/mortgage servicing, may go up. Anyone counting on alimony should also consider securing agreement or insurance that the payments will continue in the event of the payor’s disability or death. A lifestyle analysis, a long-term financial planning tool, can also be incorporated as the divorce is being worked through to help identify what various settlement plans might mean for an individual’s future financial picture.

POST-DIVORCE PLANNING

The divorce is finalized and your assets equitably split. Now what? A balance sheet is once again the starting point of the financial planning discussion – this time focused on defining the future.
 
Creating a lifestyle analysis incorporates current income, such as wages, investment income, and alimony, as well as current and future expenses. It provides a basis for the discussion around how to build a portfolio to achieve future goals. As with any major change, it may take a while to figure out what the new normal is.
 
Divorce is a complete overhaul to each spouse’s financial picture that needs to be reevaluated. Part of that is redefining an investor’s risk tolerance post-divorce. Simply put, risk tolerance refers to an investor’s willingness and ability to endure fluctuations in the value of their investments in pursuit of potentially higher returns. One might find that with a changed financial situation, and no longer making decisions in conjunction with a spouse, one’s risk tolerance is different than it was. It is also important to consider an individual’s new tax profile when deciding on underlying investment vehicles and creating an annual capital gains budget. Understanding – and regularly revisiting – risk tolerance and asset allocation is essential in constructing a portfolio that aligns with financial goals, time horizon, and emotional comfort level.
 
It’s also worth noting that divorce often comes with a heavy administrative burden. While some to-do’s may be top of mind, such as name changes and home titles, others, including estate documents, retirement beneficiary designations, and asset and debt titling, are just as crucial.

COUNT ON THE TEAM

A wealth advisor can assist throughout the divorce process and beyond, helping with both financial and nonfinancial needs. Developing a thorough understanding of the current balance sheet, lifestyle needs, goals, and appetite for risk can go a long way in making informed decisions and easing a significant transition.
 
Judy Moses is a Partner and Portfolio Manager at Evercore Wealth Management. She can be contacted at [email protected]. Neza Gallitano is a Managing Director and Wealth and Fiduciary Advisor at Evercore Wealth Management and Evercore Trust Company. She holds the Certified Divorce Financial Analyst designation. She can be contacted at [email protected].

¹ Community property states include Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin. In these states, any assets acquired by spouses throughout the marriage are labeled as marital assets.