What is Divorce Mortgage Planning and how can a CDLP™ bring value to the professional divorce team?
Divorce Mortgage Planning is a holistic approach to the process of evaluating mortgage options in the context of the overall financial objectives as they relate to divorcing situations. The role of the CDLP™ is to help integrate the mortgage selected into the overall long and short-term financial and investment goals, to help minimize taxes, to minimize interest expense, and maximize cash flow.
Take a traditional IRA for example:
- Sam is retaining the marital home valued at $500,000.
- Mary is awarded Sam’s traditional IRA valued at $500,000.
While the ‘equal’ exchange of marital assets may seem fair and equitable on paper, it may not be. The marital home comes with the opportunity of future appreciation while the traditional IRA not only comes with appreciation but the possibility of a future tax liability when Mary starts withdrawing from the IRA upon retirement.
A traditional IRA is comprised of pre-tax dollars and taxed at the current tax rate upon withdrawal. A ROTH IRA offers tax-free growth on earnings and tax-free withdrawals in retirement.
Depending on Sam and Mary’s personal tax strategies, a ROTH IRA conversion may be a win-win situation, especially if their predicted tax rate will be higher in retirement.
If Mary’s current tax rate is 25%, the cost to covert the traditional IRA would be $125,000. If Mary’s predicted tax rate is expected to increase to 30% for example, her future tax liability when withdrawing funds during retirement would total $150,000.
Let’s assume that Sam recognizes the unfair tax burden this will place on Mary in the future and he is willing to help Mary pay the conversion cost of $125,000. In order to do so, Sam will need to come up with the funds to cover the conversion cost.
One way would be to withdraw the $125,000 from an investment account earning a 6% annual return. This, however, would cost Sam $7,500 annually to do so aka ‘opportunity cost’ because he would be losing the $7,500 return annually in his investment account.
Another method may be to utilize a mortgage to pay the conversion cost of $125,000. Assuming a mortgage with a 4% interest rate over a 30 year period, the annual interest paid is $5,000 thus creating an annual benefit of $2,500 by using a mortgage to cover the conversion cost.
Divorcing clients considering a ROTH IRA conversion should speak with their attorney and financial advisor to determine if a conversion is a good move for their tax planning strategies.
As a divorce mortgage planner, the CDLP™ can help divorcing homeowners make a more informed decision regarding their home equity solutions while helping the professional divorce team identify any potential conflicts between the divorce settlement, home equity solutions as well as real property issues.
Involving a Certified Divorce Lending Professional (CDLP™) early in the divorce settlement process can help the divorcing homeowners set the stage for successful mortgage financing in the future.
This is for informational purposes only and not for the purpose of providing legal or tax advice. You should contact an attorney or tax professional to obtain legal and tax advice. Interest rates and fees are estimates provided for informational purposes only and are subject to market changes. This is not a commitment to lend. Rates change daily – call for current quotations. The information contained in this newsletter has been prepared by, or purchased from, an independent third party and is distributed for consumer education purposes.