For example, if one spouse has $200,000 in retirement assets, and the other has $50,000, the court will very likely level the playing field. Since one spouse has $150,000 more in retirement assets than the other, the court may order that half of it – $75,000 – be transferred to the other spouse.
There are no tax consequences to this transfer of retirement assets, but it can deplete your retirement savings if you are the paying spouse. This may be another “debt” that you will need to repay – to yourself.
It may not be practical to attempt to make up the entire difference with additional contributions, but you should plan to continue funding your retirement while you’re trying to get out of debt.
It’s especially important to continue funding retirement because one day your child support and alimony payments will end, and your debt will disappear. And when it does, you’ll need to have something waiting for you on the other end.
Though it may be tempting to eliminate retirement contributions and throwing all of your extra money at debt, doing so could leave you unprepared for retirement. This is an especially important consideration if you will be fairly close to retirement age by the time your children are grown, and time to prepare for retirement is short.
It’s a tough balancing act, but you should be intentional about continuing to fund your retirement while you pay off your debt.
Now, About Paying Off those Debts…
I know – it seemed like we would never get to this point! But paying off post-divorce debt is a much more complicated process. After you get done paying child support or alimony, and funding your retirement, what’s left to pay off debt? After all, you still have to live your own life too, and that will bring a whole other batch of expenses with it.
This is why I suggested earlier that having a longer term debt payoff horizon may be required. Unless you are a high income earner, and can live on a very small percentage of it, it will be a serious balancing act to cover all of your financial obligations. (Like I have to tell you that if you’re already divorced!)
In this scenario, you can envision four separate financial obligations in order of importance, in which paying off debt is dead last:
- Paying child support or alimony (if you don’t do this you could end up in jail),
- Funding your retirement plan (if you don’t do this you could end up broke),
- Paying for your own living expenses, and finally
- Paying off debt
That may leave little for the debt payoff effort. This is why getting out of debt after a divorce really is a long-term process. But ultimately time will be on your side. Here’s what I mean…
If you’re fresh out of divorce court, it may be all you can do to meet the minimum monthly payments on your debts. As time goes on, and you are better able to manage cash flow, you can begin paying more than the minimum on each debt. You can also consider using a debt payoff strategy, such as the debt snowball, in which you pay off your smallest debt first, then move on to the next smallest debt, until all debts are finally paid.
But you may also find that you are unable to get completely out of debt while you are paying child support or alimony. If that’s the case, the best strategy is to work at minimizing your debts, until the support payments end, and then you can put all of your extra cash on the debts.
A good strategy at that point will be to make additional payments on your debts that are equivalent to what your child support or alimony payments were. That should enable you to get out of debt pretty quickly after the support payments end.
Notice I didn’t mention some of the usual debt “solutions”, like doing a debt consolidation or taking out a home equity line of credit? There are good reasons why I didn’t. Both are really a matter of moving debt from one pile to another without ever paying it off. And often times a house is lost in a divorce so there is no security for the home equity line. You could get a loan from family, but do you really want to do that, knowing you may not be able to repay the money for many years?
Getting out of debt is tough enough under ordinary circumstances. But trying to get out of debt after a divorce can be seriously complicated. Mike, my advice is to settle on a strategy, and develop a large helping of patience. It won’t happen overnight, but it will happen – if you’re committed to the long-term.
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Good Financial Cents, and author of the personal finance book Soldier of Finance. Jeff is an Iraqi combat veteran and served 9 years in the Army National Guard. His work is regularly featured in Forbes, Business Insider, Inc.com and Entrepreneur.