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Episode 43 Transcript: Marital Home Buyouts

Continuing our discussion of what are your options when you have a marital home, you need to figure out what to do with it as part of your divorce. We’ve talked about selling it to a third party right away or during the divorce process. 

Another option, sort of the opposite end of the spectrum, is for one party to say, “I really want to stay in this home. I don’t want to sell it, and I will buy you out” to the other spouse. “I’ll buy you out. I’ll buy out your share in the home. I’ll give you the money for that, and then let me keep the home.” We refer to that as a “buyout”. 

And the biggest challenge of a buyout… Well, there are three challenges to a buyout. Number one is coming up with the right number for the equity, the value of the equity, of the person who is being bought out. How much money? If you’re staying in the home or your spouse is staying, how much money is the person staying in the home, how much do they have to transfer to the person who is leaving the home in order to be able to keep the home? 

The first step in calculating that equity is to come up with the value of the home. In a buyout situation, where the home is not being placed on the market and sold to a third party, that’s actually challenging because there’s some fiction to it. The home has not actually been sold on the market, and you’re going to be asking a neutral appraiser to tell you from a neutral perspective what they think the home would sell for to a third party on the market. 

Now, a lot of people will ask brokers to give them an estimate. Generally, the sense within the divorce community is that brokers will tend to skew high, and not in any way to be manipulative or intentionally disingenuous, but just because they’re salespeople, and so their own bias might be toward a more aspirational valuation of the home. 

Also, if people have recently refinanced the home, they may say, “Oh, we just had an appraisal done of the home, actually. The bank had an appraiser that they sent.” Bank appraisers are seen, at least, again, in the divorce community, as skewing low. They’re more conservative. They’re invested in protecting the bank’s investment, so their bias would be to skew low. 

As a result of that, generally in a divorce, people will pay for a neutral appraiser who doesn’t really have any skin in the game either way - they’re not invested in a higher sale price; they’re not invested in a lower conservative sale price - to value the home, and let them know, “Okay, what do we think a reasonable valuation for this property is?” 

And then, based on that, you want to decide philosophically what you’re trying to accomplish in the buyout. Are you trying to figure out what the person who is not remaining in the home, what would they have received if the home had been sold to a third party? If you had sold to a third party and you had divided the proceeds, what would the person who is walking away from this asset have received? And are you trying to make them whole for that? 

Or, are you trying to say, well, let’s look at what the value of this asset is, and then we can look at the debts associated with the asset. But there are all sorts of costs of selling an asset that, if we’re doing a buyout, we’re not actually incurring, so we’re not going to take those into consideration. We’re just going to look at what’s the net equity in this asset when we look at the value less the debt tied to the asset, and then from that net equity, we’ll figure out what the spouse’s share, the spouse who is leaving’s share, is of that net equity. 

Let me just specify on the costs of sale. The three main costs of sale are: a broker’s fee, which is going to be some percentage price of the sale value; and then taxes, both capital gains taxes if you have enough of a capital gain to have to pay tax on it, but then also often there are transfer taxes on the transfer of real property. That depends somewhat on where you live. But certainly in New York City, there are. And in New York City, those are a percentage again of the value of the asset. And so you have to figure out what those are where you live. But generally speaking, the costs of sale are going to be the broker’s fee and then capital gains taxes, if relevant, and then potentially transfer taxes.

With regard to that, there’s different philosophies of how to calculate equity in a buyout, which are: Am I trying to make you whole for what you would have gotten if we had sold the property? Or am I trying to give you your share of the net equity in this asset that is not being sold, and thus, I’m only looking at what the net equity is between the value of the asset and the debt on the asset? 

My observation is that that often turns on the investment of each of the parties in the buyout itself. So if the person who is staying in the home and paying and buying the other party out is very, very invested in staying in the home, and under no circumstances would they be willing to sell the home to a third party, there’s a decent chance as part of the negotiation that that person will end up paying out half of the net equity rather than including the costs of sale. 

The other piece to be really aware of in a buyout, and I would recommend that you attend to this, get information about this, before you go too far down the path of orchestrating the buyout, is that to the extent you have debt on your property, as a mortgage and/or a home equity line of credit, oftentimes it’s held in the joint names of both spouses. If that’s the case and you’re doing a buyout, you’re going to want to remove the name of the spouse who is leaving the property from the debt. That spouse is not going to be interested in having their name on the debt to the home that they have been bought out of. 

So, for the spouse who is staying in the property in the buyout scenario, you want to connect early on with a mortgage broker or someone at your bank to have a realistic understanding of whether or not you can qualify for a mortgage, and specifically what you would need to demonstrate in order to qualify to refinance the mortgage or to assume the mortgage in your sole name. 

I spoke about there being three different challenges in the buyout. One is coming up with the value of the asset because you’re not actually selling it and letting the market determine it. The second challenge is figuring out, if the debt is held in joint names, how to transfer all that debt to the spouse who is staying in the residence. And the third challenge is coming up with the money to buy the other person out. 

Let’s say you agree that the value of their equity is $250,000 but you don’t have $250,000 lying around, or maybe you have $250,000, but that’s all you have and you don’t want to be completely illiquid and have no money in your savings account, so your challenge as the person who is remaining in the home is how to come up with that money. 

A lot of people, as part of refinancing the home, will come up with some or all of the cash for the buyout from the refinance. Take note that often you will pay a higher interest rate as a result of taking cash out when you are refinancing a property. But it may be worth it to you, and in fact, it may be the only option for you to come up with enough cash to be able to effect the buyout. 

Obviously, other options in terms of coming up with how to transfer the right amount of value to effectuate a buyout, would be trading it off against other assets. So maybe if you’re staying in the home and you’re entitled to a certain percentage of retirement assets, maybe you’re foregoing that, letting the other spouse keep their retirement assets in exchange for keeping the home, or doing the same with investment accounts, or the same with, for instance, someone’s interest in their business. 

Another option that I do see couples agree to, though sometimes judges don’t love this, but that really depends on your jurisdiction, is, if the person who is staying in the home is entitled to receive future financial support in the way of child support, spousal support, to often not completely forego but to reduce those support amounts in a way that ultimately is crediting the payor of support with their share of the equity in the home. That’s another option if coming up with the cash is going to be challenging, that’s another way to effectuate the buyout.

Just to summarize, buyouts, in some ways, they do carry more complication with them than a simple third party sale does. But obviously, the benefit of a buyout, if at least one party or both parties would like to stay in the home, in particular, if you have kids, being able to effectuate a buyout does provide that consistency, and it doesn’t have both people uprooting their living situation at the same time that you’re both getting accustomed to separating your households and restructuring your lives in the divorce process. 

Episode 44 Transcript: Co-Owning the Marital Home

Episode 42 Transcript: Selling the Marital Home