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How Does Debt Work in a Divorce?

Divorce includes the division of assets and debts. Frequently, it is easier to divide assets than to divide debts. Both credit (including store) cards and mortgages present unique problems when divorcing.

Creditors, such as banks and lending institutions, are not bound by the terms and conditions of a divorce decree and property settlement agreement. The third party lender considers both borrowers to be responsible for any debts – even if one spouse is ordered to pay a particular debt, a third party creditor can (and typically will) pursue both borrowers.

Unsecured Debt

In the case of unsecured debt, such as credit cards, there is risk of one party filing for bankruptcy. With few exceptions, when one party files for bankruptcy, they will be relieved of any obligation while the other party will be responsible for the debt. The terms of the Divorce Decree will have little impact on who is responsible to pay the debt. Therefore, when dealing with credit cards, it is important to attempt to transfer or pay off debt as soon as possible after the divorce has decree has been issued. Unfortunately, this may not be feasible in many cases.

How Mortgages Are Handled

Generally, the residence is the parties’ largest asset as well as their largest debt. If this is the case, the residence problems are significant.

The ideal result is that one party is awarded the residence and the other party receives their share of the equity. Thereafter, the receiving party refinances the residence’s debt. Ultimately, title is transferred to the receiving party who is solely responsible for the remaining debt. Unfortunately, this is often difficult to accomplish for two reasons:

  1. Federal mortgage qualification rules require a 43% debt to income ratio; and
  2. Spousal maintenance and child support are not included as income until they have been received for 12 months.

There are few viable alternatives if one of the parties wishes to retain the residence. The other spouse may agree to remain on the mortgage, but their credit rating is subject to the receiving party making timely mortgage payments. Even if timely payments are made, the impact of the debt may lessen the other spouse’s ability to qualify for credit based upon their debt to income ratio.

The sale of the residence may be the only practical and workable option.

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