Whether it comes before or after the papers are signed, economic hardship is all too familiar to many couples who divorce. Following a few guidelines can clarify the debt and credit situation, and ease financial stress during this difficult time.
Write down all of the shared and individual liabilities that exist, and make sure to settle (or get a judgment) on how you'll allocate these liabilities. Make sure that each spouse pulls a "tri-merge" credit report – a summary from all three major reporting bureaus. Keep in mind that a credit score actually involves three scores from the three agencies; all three are required to provide a credit report. Consumers can access credit reports once each year for free at www.annualcreditreport.com.
If you find errors or misrepresentations, send a letter directly to each agency requesting the item be corrected or removed. If the report contains negative information that is factually accurate, send a letter explaining the cause of the derogatory mark (e.g., divorce made it impossible to pay credit card payments two years ago). Ask the reporting agency to append the explanatory letter to your profile. This process will improve your future access to credit and help you get a mortgage, credit card or installment loan – even auto insurance or a job – on terms that meet your financial strategy.
Make sure systems are set up in the divorce agreement so that each spouse is making his or her payments, as appropriate. There are some very important implications if a spouse does not meet his/her end of the bargain on liabilities allocated through the divorce proceedings.
Call all creditors for shared accounts (credit cards, gas cards, department store cards, phone cards, etc.). Close the accounts - if there are no balances being carried - or remove your name from jointly held accounts. For jointly held credit cards, and for any other debts incurred during the marriage in community property states, there is shared liability. Couples can thereby share any potential negative credit rating impact. So, if a spouse does not make payments after the divorce, it could come back to haunt the other spouse and his/her credit rating.
Sit down – with your family as applicable – and set long and short-term personal goals. Whether you want to buy a home of your own in five years, plan for retirement or have time to train for a 10K, write down the goals. Then – and only then – create and use a simple budget based on the personal goals you wrote down. Software not required; pencil and paper, or an Excel spreadsheet, work just as well.
Few investments can pay off as well as eliminating credit card debt. If you cannot pay all of your debts down in a short period of time, determine a fixed monthly amount you can pay toward your debt. This amount should be more than the combined minimum payments on all of your cards. Then choose either the avalanche or snowball method.
In the avalanche method, start with the debt that carries the highest interest rate, and work down from there. Make minimum payments on each debt except the one with the highest interest rate. For that, pay the minimum plus any extra you can afford. Repeat this process every month until that debt has been paid off. Then, keep paying the same monthly total – but take every dollar you were using to pay off the highest-interest debt and put that towards paying off the debt with the second-highest interest rate. Keep following this strategy until you’ve cleared away all your debts.
The snowball method involves paying off the smallest debt amount first, and working up from there. Pay the minimum on all debts. Then apply any remaining funds from your overall allocated amount toward paying off the debt with the smallest balance. After you pay off that debt, continue paying the same monthly amount you started with. Follow the same strategy as before: Pay the minimum on all debts, but pay all your remaining funds to knock out your second-smallest debt faster.
And if you find yourself really struggling to pay down debt, and/or make minimum payments, do not hesitate to contact a reputable debt relief firm. Experts can provide input and guidance on options such as debt settlement (now regulated by the FTC), credit counseling and debt consolidation.
If there is IRS debt (i.e. you owe back taxes), be aware that the IRS does not have to honor a decision from a divorce judgment. Each spouse has a responsibility to make sure that the other does not create a tax liability the other is unaware of. Individuals may need to consult a tax expert to help with divorce tax planning.
Plan how to handle your home. If the couple owns a home, the mortgage is likely their most significant monthly payment. Be certain to understand how to handle monthly mortgage payments, and how to divide the home’s value – whether one partner buys out the other now, or the home is to be sold after children are grown.
It’s easy to feel sorry for yourself when it comes to finances. Don’t. Focus on rehabilitating credit and financial health as soon as possible. Plan to reinvest any proceeds/equity that come out of the divorce proceeding.
Often, people find saving easier when they take advantage of direct deposit or automatic transfer to a savings account. Start considering savings a “bill” that must be paid, even if it is as little as $1 per day.
Some people release emotions during or after a divorce in buying things. Later, they often regret the purchases – and the resulting credit card debt. Instead, rein in spending until you get a good handle on what your new life will be like. Some people like to go on a “plastic diet,” committing to living without credit cards for a period, even if only a month. Being more conscious of spending will help deter impulse purchases and reduce overall spending. However, do not close long-standing accounts with a positive payment history – these are important for your credit report.
By taking steps to protect credit, and focusing on eliminating debt, individuals and families can come divorce through in much better shape.
More expert advice about Money and Divorce
Photo Credits: Vegas winnings. by Flickr: BuzzFarmers; Check Man, Cross Man and Jump Man © ioannis kounadeas - Fotolia.com