Couples who have built up significant wealth during their marriage have a lot at stake when dividing assets in divorce. As a certified divorce financial analyst (CDFA), I have worked on over 100 divorce cases either as a financial neutral party to the divorcing parties or as a financial analyst and advocate for one spouse. This article describes three mistakes I often see the less financially-knowledgeable spouse make in high net worth cases.
High net worth divorces often involve the sale of an expensive marital home resulting in cash proceeds to each spouse. The presumed alimony payer may also propose making a lump sum cash payment instead of future monthly payments. This can result in one spouse receiving hundreds of thousands of dollars in cash without much knowledge of what to do with it (besides buying a new house).
Unfortunately, being house-rich and cash-poor can lead to complications when money is needed to pay living expenses that increase over time due to inflation. Also, emergency cash needs will most certainly arise every now and then.
Those without any knowledge of investing assume they can leave hundreds of thousands of dollars in the bank as a safety net which they can pull from when they need cash. These people are often scared to invest their money in stocks, bonds or funds because they worry about historical market crashes like during 2007/2008. However, fear is not a plan. In this video I explain how quickly a woman who received a $600,000 lump sum divorce settlement would run out of money if she didn’t invest it. Not investing at all is likely to lead to running out of money.
Many publicly-traded and privately-held companies offer employees equity compensation. In addition to employee stock purchase programs (ESPPs), the most common forms of equity compensation I see are restricted stock units (RSUs) and non-qualified stock options (NQSOs). For the spouse who doesn’t work at such a company, all of this can sound like “alphabet soup.”
Intentional or not, sometimes a divorcing spouse disregards RSUs or NQSOs that haven’t yet vested, assuming these awards are not considered marital property subject to division or that the present value is zero. These assumptions are incorrect. RSUs or options awarded during marriage but which do not vest until after separation or divorce (depending on the state) can have attributes of both separate and marital property. Marital property is typically subject to division between the spouses.
Someone needs to calculate what portion of these assets is marital property. In order to save money, instead of hiring two experts a couple can hire a neutral financial expert to run calculations as described in this one-minute video.
Many wealthy people got wealthy through investing. This can include investing in real estate; stocks, bonds, options or futures; or private equity. Not all investments are successful and sometimes investors experience capital losses instead of capital gains. When realized capital losses on certain investments exceed realized capital gains on other investments, a tax return might include an entry for a “capital loss carryover.”
During my case reviews, I routinely see tax returns that show hundreds of thousands of dollars in short- and long-term capital loss carryovers. Although it may seem counter-intuitive, these losses are actually assets that can be split in divorce with each spouse taking half (or some other equitable arrangement).
Unless there are future investment gains to offset the losses, a single person can only take a deduction of $3,000 from taxable income each year which results in only a modest tax savings. For many, the losses will never be used up as they can’t be passed on to heirs. I am an expert in a method to generate tax-free income for potentially years to come in cases where there are substantial capital loss carryovers. In fact, I have devoted an entire chapter to that strategy in my Amazon best-selling book, Every Woman Should Know Her Options.
Imagine spotting a pair of $200 stilettos at your favorite store. You love them and want to buy them. However, you know that the store often runs sales and there is a good chance that if you come back a month later, the stilettos will be marked down by ten percent. You don’t need the stilettos right away and of course you would prefer to pay $180 instead of $200. So instead of buying them today, you set aside $180 (that you won’t spend on anything else) and come back a month later to buy the shoes.
What’s more fun than buying a new pair of shoes? Getting them on sale! And what could possibly be more fun than that? Getting paid to wait until they go on sale! Wouldn’t it be marvelous if the store offered you five bucks in cash today if you commit to coming back a month from now and purchasing the shoes for $180? And here’s the kicker: if you come back in a month and the shoes are not marked down at least ten percent, you no longer have the obligation to buy the shoes, yet you get to keep the five bucks.
In this analogy the five bucks is the option premium you would have collected had you sold a put option which you can do month-after-month to generate tax-free income until you have used up all the capital losses. Since this income is classified as short-term capital gains, it wouldn’t be taxed like dividend income from stocks or interest from taxable bonds. When you don’t have to pay federal and state income tax on income, you keep more money.
Whether one hires an attorney or mediator, it makes sense to engage a CDFA during the divorce process and potentially an investment advisor after the divorce is final.
[Disclaimer: Writing options is not for the beginning investor. All investing carries risk. Please consult with a licensed financial or investment advisor who is familiar with your personal financial situation before embarking on this type of strategy.]
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