Getting divorced is never easy, in fact, it can be heart wrenching, hostile, and become outright adversarial, which makes owning real estate together almost impossible for some divorced couples. One way to divide ownership is to sell the property and split the proceeds evenly. However, there are some reasons you might not want to do this, the most common of which is when you have young children, and the custodial parent intends to keep the kids in the marital home. So an alternative solution is for one spouse to “buy out” the other’s interest in the home.
Is A Buyout Realistic?
Let’s use the following example. Your home is worth $300,000, and you and your spouse still owe $120,000 on the mortgage. This means you have $180,000 worth of equity in the home. If one party wants to keep the house, he/she could “buy out” the other’s share in the home’s equity for $90,000.
You may be thinking, “That is impossible—I can’t come up with $90,000!” Lack of cash liquidity is a common concern among divorcing couples. Typically, if a person does not have the cash on hand to buy out their spouse, they’ll refinance and pull out some of the home’s equity. Using the same example, the buying spouse would refinance the home and take out a new loan equal to $210,000, allowing him/her to pay off the existing loan balance of $120,000 and providing $90,000 in cash to buy out his/her spouse.
Seems simple enough from the outset, right? Well, truth be told, there are several things you should consider before going this route.
7 Valuable Considerations Before You Buy Your Spouse Out In A Divorce
- Future Appreciation: Depending on the market where you live, the selling spouse may lose out on the home’s future appreciation. Conversely, the buying spouse may end up feeling like the buyout price was too high if the market deteriorates and the home loses some of its value in the future.
- Potential Financial Stretch: If you were splitting the mortgage payments, it might be a financial stretch for you to now take on the mortgage payments alone. Your cost may be offset if the selling spouse is ordered to pay the buying spouse child support or alimony as part of the divorce agreement. Review all numbers carefully to ensure the buying spouse can realistically afford the monthly mortgage payments.
- Refinancing Rates: Interest rates continue to rise, so if you are the buying spouse, you should factor that into your calculations to help you determine current and future monthly payments. Interest rates are also affected by your credit score. If you do not have good credit, you may need to find a co-borrower.
- Loan-to-Value Ratio: Bank regulations have tightened since the recession, and most lenders won’t allow you to refinance unless the new loan is equal to or less than 80% of the home’s value. For instance, if you borrowed $210,000 against a home worth $300,000, the LTV ratio would be 70%. Borrowing less than 80% of the value of your home makes your application stronger, assuming you have good credit, the bank will entice you with a favorable interest rate.What if you have little or no equity in your house? Let’s assume you needed to take out a $260,000 loan to pay off the existing loan balance and to buy out your spouse. This would put you at an 86.6% LTV ratio, which could make it difficult – if not impossible – to refinance. In situations like this, you might consider taking out a smaller loan (say $240,000) and then find an alternative way to pay the remaining amount owed to your spouse through the buyout (e.g. taking $20,000 out of a retirement account to cover the balance).
Einstein was quoted as saying “ Logic will get you from A to B, Imagination will take you everywhere.”
4 Creative Buyout Options
- Payment In-Lieu of Cash Buyout: If you cannot refinance or otherwise afford to buy out your spouse directly, you might consider alternatives to a cash The most common solution is to use other marital property or assets of similar value instead of a cash buyout. For instance, you may agree to a lower buyout price in exchange for equity in other marital property (say, a vacation home).
- You could forego spousal support payments in exchange for a lower purchase price. For example, let’s imagine Mary is our “supported spouse” and is buying Tom out of the house so she can stay there with the kids. Mary agrees to forgo monthly spousal support payments in exchange for Tom selling his share of the house at below market value.
- Buyout Over Time: There are some cases when both parties agree to the terms of a buyout, but the buyout simply isn’t possible at that time. For example, the couple may have bought their marital home at the height of the market and don’t have equity to split, but neither party can afford the mortgage payments on his/her own. In a situation like this, the couple may decide it’s best for both spouses to keep an interest in the house for a while (until the market improves; until they build additional equity in the home; until the buying spouse can afford the payments on his/her own; ). Instead of one buying out the other right now, they agree to a gradual buyout over time, the terms of which should be clearly spelled out in the divorce agreement.
- Buyout at a Later Date: Similar to the scenario above, the couple may agree to postpone the buyout to a later date. By way of example: Sally and Michael are getting divorced, and Michael wants to sell the marital home where they live, along with Sally’s 84-year-old mother. Sally argues they cannot sell the home because her mother is too ill to be moved. Michael understands her predicament but wants Sally to buy him out of his share of the house. Sally cannot afford to do so right now, so they agree to postpone the buyout until a date in the future (either when her mother moves into a nursing home or passes away). They will continue to own the home jointly until then.
The Final Steps In The Buyout Process
If, after considering all of your options, you decide that a buyout still makes sense for you, the next step is determining the value of the home. You will need to get an appraisal which may cost $300 to $500 and should resolve any differences of opinion you and your spouse have about a reasonable buyout price.
Then you will want to calculate the value of deferred maintenance if any. For example, if you and your spouse both acknowledge the house desperately needs a new roof, you might agree to lower the purchase price accordingly so the buying spouse can afford to pay for the new roof.
These details are best sorted out through the help of an attorney. We always suggest consulting a lawyer before agreeing to the terms of a buyout. It’s a good idea to speak with a financial advisor to help you understand the tax implications of the buyout.
Determining how to divide marital property is an emotionally draining process when you are getting a divorce. Each couple’s situation is uniquely difficult, but not impossible when one spouse wants to retain ownership of the marital home. We hope that the considerations outlined above help bring clarity to your decision-making process.