Today I’ve asked attorney Jeremy Swanson to elaborate on how debts may be handled during a divorce.
“Debt Division During Divorce” | Swanson O’Dell A.P.C.
Jeremy Swanson, Esq.
In a divorce, the judge will not only divide up assets, but also debts. Generally speaking (with some exceptions) any debt incurred during the marriage is community debt. This means that it is split evenly, or else is balanced against other assets. For instance, one party could take a car worth $10,000, and also $10,000 in credit card debt, for a net asset value of zero.
One of the biggest problems with debt division is that although the court can divide all debt between the parties, a family law judge has no authority over the lenders themselves. A bank, credit card company, or other creditor is not bound by any orders of the family law court. If debt is held in joint names, the creditor will probably try to collect the full amount from the person with the higher wages or great assets. They will disregard any order of the family law court for division. This can create real problems when one party does not pay the debt assigned to them. Although the family law court can order the other side to repay the amounts taken from accounts or garnished from wages, this money can be hard to recover if the other side does not have assets. It is often prudent to structure a settlement so that the party who has the means to pay the debts is assigned them, with a balancing against assets awarded to the party.
Another consideration is bankruptcy. What if one party files bankruptcy after the divorce, and the creditor tries to collect the full amount from the other party? This can create a real mess. If a bankruptcy is anticipated, it is usually financially best to file the bankruptcy together, and prior to finishing the divorce, so that the debt is cleared off and discharged before the court makes any orders regarding property division.
DISCLAIMER: All legal principles quoted are valid as of the date of writing in the State of California. However, you should NEVER base your actions on a legal article, blog, or internet story, as facts in real life are complicated. You should have your case evaluated by an attorney experienced in the area of law needed for your case. In addition, there are often exceptions and potential changes to results that occur due to facts that you may think are trivial or unimportant. This article should not be taken in any way as legal advice on your specific legal matter.
NOTICE: This blog and all materials on our website constitute advertisement materials, and the promulgation of such materials is meant for the residents of the State of California only. The attorneys and this firm do not practice law in any other state. In addition, the promulgation of these articles does not in any way create an attorney-client relationship and any inquiries and information you may send to the attorneys should be general and not specific, as they are not confidential.
Debts that are commonly divided in divorce proceedings are typical consumer debts such as mortgages, car loans, and credit cards. These types of consumer credit products are generally credit that is reported to all three major credit bureaus, and which can be a great source of damage and stress post-divorce.
In a divorce decree, the court assigns payment responsibilities to one spouse or the other, but it cannot amend or override the original contract signed by both spouses. In the credit world, this means that if your spouse retains the jointly held car loan or mortgage, it is still a joint account even after the divorce is final. Removing your name from the title or deed does not remove your name from the promissory note or contract.
Here is where it gets messy: your ex-spouse misses a few payments on the loan, and now you have late payment delinquencies reported on your credit reports. This can happen at any moment in time for the life of the loan which can be a very long time if we’re talking mortgages and car loans. The credit score formula will not take the “my ex-spouse is supposed to pay for that” argument into consideration, and neither will your creditors. Your score can drop significantly, often disqualifying you from obtaining a new mortgage or car loan for yourself.
This scenario can happen with any joint financial product that is seen on credit reports. Credit cards are much easier to control because you have the option of closing the account, and they are generally much easier to pay off when compared to a mortgage or car loan.
Can I be removed as a joint loan holder?
Your ex-spouse will have to refinance the loan under their name only. That can become very problematic as negative equity problems could prevent a new bank from refinancing the loan. Perhaps the sole income of your ex-spouse is not enough to qualify for the loan on their own. Or even worse, their credit rating is very low as a result of the divorce.
Protecting your credit:
To protect your credit you would have to terminate your liability with the bank. One option is to sell the house or car and pay off the loan. If that’s not possible, and you find yourself or your ex-spouse unable to refinance the loan, your only real option is to file for Chapter 7 Bankruptcy Protection. This eliminates the possibility of late payments affecting you in the future. As long as your ex-spouse continues to make payments, they get to keep the house or car.
If bankruptcy is not an option for you, the next best thing is to check your credit report and joint accounts once a month to make sure things are being paid on time. As you are still a joint account holder, there is nothing stopping you from calling the bank once a month and checking to see if the payments have been made. If there is a danger of being 30 days late, you at least have the option to protect your credit rating by making the payment yourself and then having your ex-spouse reimburse you. Not the most practical solution, but it works. I often advise clients to do this when they are in the middle of a major purchase, but run the risk of late payments due to jointly held debts which they don’t control.
The “rule” of seven years is perhaps the most prominent credit report factoid known by consumers and the general public. It is actually severely misunderstood by almost everyone that thinks they know it.
A common statement I hear is “after seven years you don’t have to pay it anymore.” This hasty generalization is very misleading. The specific law allows for a creditor to report negative account statuses to the credit bureaus for UP to seven years. (7.5 years to be exact, more on that later.) This law only governs how long the information can remain on your credit report. It has nothing to do with the liability you have on the debt. You will always owe it.
The debt never actually expires, there is no “rule” or “law” that forces a debt to expire after a certain period of time. Most creditors and collection agencies simply give up collection efforts after they lose the ability to credit report an account. This is why consumers can sometimes be shocked when they receive a collection notice for a debt that is often 10, 12, or even 20 years old. Guess what? Technically you still owe that money, the collection agency just ran out of any meaningful tools to collect it. After seven years has passed, nobody will ever see it again on your credit report. It’s like it never happened…
Noww that we have cleared that up, let’s talk about the most important part of this seven year rule.
When does the seven year clock start ticking, and when does it stop ticking? The law clearly says the clock starts 180 days after the original delinquency that led the account to be charged-off or sent to collections. This is known as the “terminal delinquency.” Technically, that means the clock starts six (6) months after your very last payment on the account with the original creditor. Since I see credit reports every single day, I can tell you with certainty that even though the accounts can report for 7.5 years from the last payment you made, credit bureaus today are only reporting for exactly seven (7) years. Not 7.5, even though technically they can. Read the exact text in the FCRA here.
Here is how the seven year rule can apply to items on your credit reports:
Judgments – Seven years from the filing date whether satisfied or not.
Collections – Seven years from date of default with the ORIGINAL creditor, not seven years from when the collection agency buys or is consigned the debt.
Charge Offs – Seven years from the date of the original terminal delinquency.
Settlements – Seven years from the date of the original terminal delinquency
Repossessions and Foreclosures – Seven years from the date of the original terminal delinquency.
Late Payments – Seven years from the date of occurrence.
Can making a payment, or paying a collection reset the seven year statute?
A lot of consumers I speak with are afraid to pay off a collection or even speak to the collection agency because they fear doing so will re-age an old debt and reset the seven years. This is absolutely false, nothing you do can reset the seven years. Paying it won’t, calling them won’t, disputing it won’t. (A partial payment can reset the four year statue for filing a civil suit against you, but that’s a whole different topic we’ll cover in a future blog. )
Just because the FCRA and the law say that’s how long the items can credit report for, doesn’t mean things won’t report for longer. Credit bureaus are handling millions of files and mistakes definitely happen. Collection agencies can also “re-age” the debt (illegally) causing the reporting period to reset. It’s up to you to know your dates and hold the credit bureaus accountable to the reporting statute of limitations, AKA the seven year rule!
When an eager consumer doesn’t qualify for the financing they require, they often are advised to seek a qualified “co-signer” to allow them to obtain the loan or credit extension. Financially, it’s like juggling knives with your eyes closed.
Four things you NEED to know:
Lenders will count this Debt as Yours – this will count against your debt to income ratio as if you were making the payment.
You are not acting as a reference.
You are just as responsible for the repayment of the debt. Translation: if they don’t pay, you will pay it. All of it, not just “your half.”
It will lead to derogatory reporting if its goes unpaid or paid late, and the credit score impact will be just like if you paid late or failed to pay.
Remember: It is a contract you are signing. You are promising that if anything goes wrong; you will pay the balance, plus interest and penalty fees.
If you already are a co-signer, you need to set some safeguards to protect your credit.
Make sure the statement goes to your mailing address
Ensure the finance company knows how to reach you in case anything goes wrong.
Pay the bill yourself, and have your co-signer pay you.
I cannot stress how important it is to pay the bill yourself to protect your good credit. There is a reason why they need a co-signer, and it is because they do not have a good track record of paying their bills on time.
The bank is already telling you that they do not trust that person enough to lend them the money without your guarantee.
I have seen it end friendships, relationships, and make family gatherings extra awkward.