‘Negative Equity’ and Declining Home Values in Divorce
The chaos of the past few years caused many people to see a rapid up-tick in the value of their homes. Unfortunately, this has now been followed by a concerning decline in house values, as global markets are trying to balance interest rates with inflation. This can create an interesting paradox for divorcing couples.
If you owned your home prior to Covid then chances are, your home is still worth more than what you paid for it. This is very important to keep in perspective. I have had divorcing clients tell me that they do not want to sell their homes now, because they want to wait for the value to go up again. Here is the dialogue we have:
Me: “How much did you pay for your home?”
Me: “How much is it worth now?”
Me: “Ok, so your home is still worth 3 times what you paid for it. That’s a remarkable increase in value.”
Client “Yeah. Well, it was worth $1.2 million at the pricing peak last winter.”
Me: “That may be true, but that was an anomaly and your house is still worth way more than you paid for it. You’ll pay off your debts and walk away with a very reasonable amount of equity when you sell. That’s a win”
Perspective is paramount in these situations. Investors know that there is always inherent risk with any asset that is linked to the volatility of the economy. Not all home owners realize that they are investors though, so a perceived loss in value is often seen to be the same as someone stealing money directly from their bank accounts.
This is not an accurate way to look at this.
Just because the value of my children’s college fund was higher last spring, it does not mean I am entitled to the difference now that the economy has taken a downturn and its value has declined. If I need to use that asset now, then I must accept that its value has diminished. In any case, it is still worth considerably more today than it was when I first invested in it 10 years ago. I will not wait a few years to withdraw the funds in hopes that its value increases again. My son needs the money for his tuition NOW.
Likewise, if you are getting divorced and you do not want to sell your house yet because its value has decreased, the logic trail goes cold very quickly.
Let’s consider the challenges and risks of continuing to co-own a property after you are divorced.
The spirit of Family Law is to see that ex spouses become financially independent of one another. If you are no longer married, your finances should no longer be married either. There are several red flags that are raised when divorcing couples want to continue with joint ownership of the marital home.
First of all, you will need to share several expenses throughout the years until the sale of the home. These include mortgage payments, property taxes, minor repairs, major renovations and emergency (costly) repairs. What if one party cannot or does not want to contribute to these anymore, but the home value is still low or even lower than when they were first divorced?
Can the other party continue to pay for all the expenses themself and how will that be considered into splitting the equity when the home is sold one day? What if this sort of a scenario forces the sale or the buyout of the home anyway? Will the ‘forced’ party be okay with the untimely sale of the house and how that may interrupt their life?
Beyond the financial considerations, let’s think about the daily life of two divorced people continuing to live under the same roof, sharing space.
People divorce for a reason.
Usually its because they do not love the other party anymore. Often this translates into: they dislike the other party very much. Is it really wise or realistic to think that two divorced people continuing to live together is mentally and emotionally viable?
Continuing to live together after divorce is not a good way to move forward in life.
“Well alright”, you might say, “what if the parties rent the house out then?”
You know the saying, “Same $@#!, different pile”? Apply that here.
Being a landlord is hard, especially if you end up with bad tenants. Is this really the kind of problem-solving situation that divorced people should intentionally get themselves into?
I hope the answer is self-evident.
What if the home is worth less than the mortgage? (This is called ‘negative equity’.)
Unfortunately, this has happened to many unsuspecting ‘peak-price’ home buyers. Again, people in this situation feel compelled to continue with joint home ownership post-divorce. Most of the reasons to avoid this have already been cited. But, in this scenario, there is the additional factor that your home is actually a liability and not an asset at all.
What if the disparity between house value and mortgage balance continues to widen in the wrong direction post-divorce and the parties discover they simply cannot continue on with the stress of co-owning or they are going to go crazy? They will probably be forced to sell, except now they will owe the bank even more money and run the risk of having to declare bankruptcy.
I will say it one more time: If you have negative equity, your home is not an asset! It is a liability.
Do you really want to continue owning a debt with your ex? As much as it hurts, it will probably be less painful to swallow the medicine now, then to continue living with an exorbitant amount of stress and volatility in a hundred little ways. An ounce of prevention is worth a pound of cure here.
If this is your situation, you can survive this. I have seen many people walk through the hard choices, start over again and build an even better life. Divorce is an opportunity to cut ties with things that were not working and to start over. This may mean you will be off to a rough start at first, but by making wise choices, you will set yourself up for a successful future.