Preparing Your Finances for Divorce
When divorce is imminent or in progress, there are a few financial preparation steps available to help minimize the cost and headache of sorting out divorce’s financial implications.
Creating personal financial statements, tracking all income streams, and vigorously keeping those documents updated can save divorcing parties vast amounts of time, money, and headache. When done correctly, these personal financial statements can paint a clear picture of a person’s financial situation and reduce guesswork in divorce proceedings.
To begin the process, gaining a clear understanding of monthly and yearly recurring expenses is crucial. This can be done by combing through bank statements; but be wary of considering only the past few months or even the past year. A three-year average of expenses more fully accounts for fluctuations in year-to-year expenses and can help ensure that no expenditures are left undiscovered.
To create accurate personal financial statements for divorce preparation, capturing a complete picture of personal income is also paramount. If regularly employed, the first step in this process is collecting pay stubs to determine gross pay from each employer. However, it is important that both regularly employed people and owners of businesses go beyond their most prominent forms of income. Any bonuses, income received from side businesses, rental income, or even reimbursed business expenses in some cases contribute to personal income. Any income earned from self-employment activity, other unearned income, activity in a brokerage account, pass-through income from a business, and even cryptocurrency activity should also be considered and examined.
On the balance sheet side of personal financial statements, determining the ownership of some assets and liabilities can be more complicated. The differentiation between marital vs. non-marital assets centers around origination of ownership. In most cases, assets that were owned by a party beforehand and brought into a marriage will be deemed non-marital and remain with their original owner. Therefore, the process of tracing certain assets’ origination can help determine ownership and should be pursued. However, state laws regarding marital property vary and a marital property attorney should be used to assist in these designations.
Regardless of ownership, assets should be reported at fair market value on personal financial statements. For owners of real estate and/or closely-held businesses, this will likely require a professional appraisal or valuation, which will address the issue of reflecting the full market values of assets.
When considering your assets and liabilities, also ensure that you go beyond what is reported on tax returns to include tax-deferred or tax-free investments and assets. Similarly, make certain that you go beyond reporting obvious debts to also document sums borrowed from or loaned to friends and relatives.
One balance sheet item that can be particularly easy to forget during this process is cryptocurrency. This asset can be difficult to track, due in large part to its complexity to those not well-versed in the subject. One key difference to keep in mind as it pertains to reporting this asset is between crypto wallets and exchanges.
Crypto wallets provide a platform either online or offline on which to store cryptocurrencies. Therefore, the contents of all your crypto wallets should be considered when creating your personal balance sheet. On the other hand, crypto exchanges provide a place to buy, sell, and trade cryptocurrencies. Exchanges are where you can convert between traditional currency and cryptocurrency, meaning your activity history in these exchanges should be closely examined when creating your personal income statement. For more information on cryptocurrency and a dive into its tax implications, see our article “The Taxation of Cryptocurrency”.
Conclusively, gathering the knowledge and documentation necessary to complete personal financial statements will help serve the purpose of eliminating uncertainty about your financial status when disputes arise. This clarity can not only lessen the professional fees associated with otherwise lengthy and unorganized divorce proceedings, but can also present an organized and compliant front that may benefit the diligent party. In an otherwise painful process, preparation can somewhat soften the financial blow of divorce.