It once was the case that a jointly-owned house was a divorcing couple’s largest asset. However, in this poor economy, many divorcing couples find themselves with homes that are “upside-down,” worth less than amount owed on the mortgage. Upside-down property can be one of the most difficult assets to handle in a divorce.
When a divorcing couple owns a house worth MORE than the mortgage, one of two things usually happen:
1. The house is sold, the mortgage is paid off, and the profits are divided; or
2. One spouse keeps the house, refinances the loan in his or her name only, divides any profit with the other spouse, and the spouse who moves out has no further responsibility for the mortgage or the property.
Neither of these options is feasible when the home is upside down. Instead, one of four solutions is usually chosen:
1. Allow one spouse to keep the house with an agreement that this spouse will refinance within a specified period of time. Keep in mind that both spouses are still responsible for the mortgage until the refinance is possible, and both spouses should remain on the title to the property. Refinance will be possible only when the house regains enough value to make it worth more than the mortgage, and only if the spouse who keeps the house has good credit and a sufficient income to pay the mortgage once it is refinanced.
2. Both spouses hire an attorney to negotiate with the mortgage lender to permit a short sale of the property – i.e., to let the house be sold for less than the mortgage balance, and to forgive the amount still owed on the mortgage. This may be acceptable to the bank if it will still receive a substantial amount on the mortgage, and if it seems likely that the house may otherwise eventually fall into foreclosure due to the financial stresses of the divorce.
3. The spouses create a partnership or limited liability company and transfer the house to it. Both spouses keep paying on the mortgage. The house is rented out, and the profits or losses are “passed through” to the spouses to be reported on their individual tax returns. This only works if both spouses are able and willing to keep up on the mortgage payments.
4. Move out of the home and let it go into foreclosure. This will allow the couple to escape any responsibility to pay the post-foreclosure balance owed on a “purchase money mortgage” – a first mortgage used to buy the residence. However, both spouses will still be legally responsible for any balance remaining on a second or third mortgage, or a refinanced mortgage, after the foreclosure sale. Regardless, this approach is not generally recommended, because “walking away” from any mortgage will severely damage the credit scores of both spouses for many years after that. If the couple has a large second or third mortgage on the house, Chapter 13 bankruptcy may be a better solution, because it will allow the court to “cram down” second and third mortgages so the total owed on them is no larger than the total value of the house minus the first mortgage. With a Chapter 13 bankruptcy, good credit can be restored more quickly than it can after a “walk away” foreclosure.
Whatever course of action a divorcing couple decides on, there should always be a written agreement which the divorce court includes in a court order. This can help protect the good credit of the spouse who keeps making their share of mortgage payments if the other spouse stops paying, because it will allow the paying spouse to have this information noted in their credit report.
Call Minella Law Group for Divorce Help with an Upside-Down House
Our experienced San Diego divorce attorneys can guide you through every step of a divorce with an upside-down home. We’ll work with you to come up with a strategy that best fits your needs and protects your interests and assets. Please call Minella Law Group at (619) 289-7948 to make an appointment. We look forward to helping you.