When a married couple takes out a mortgage, the couple often obtains the loan and takes title to the property jointly. If the couple then divorces, the issue of what will happen to the home can get complicated and, as a result, the couple may also face a foreclosure.
If you are going through a divorce, there are options that will allow you to dispose of your home, as well as options if one spouse wants to remain in the home. Figuring out what you want to do with the property early on in the separation can ultimately help you avoid foreclosure. Read on to learn more about some of the various options that are typically available to divorcing couples.
(To learn the ins and outs of the foreclosure process, and foreclosure procedures in your state, visit our Foreclosure Center.)
If you and your soon-to-be-ex do not want to keep the home, here are some options for avoiding foreclosure.
If neither party wants, nor can afford, to keep the home, one option is to sell the property. This is probably the easiest way to put the joint debt behind you. Unfortunately, if you are underwater—where you owe more than the home is worth—it may be difficult to sell the home for a price that will pay off the debt.
If you are underwater, your lender may agree to a short sale or a deed in lieu of foreclosure.
A short sale is when you sell your home for less than the total debt balance remaining on your mortgage and the lender agrees to accept the proceeds, which fall short of paying off the total mortgage debt. In some cases, the difference between the sales price and the mortgage debt will be forgiven. (You might have to pay taxes on the forgiven amount.) In others, the lender may require that the spouses remain jointly liable for the deficiency—the difference between the sales price and the total debt. (Learn about how to avoid a short sale deficiency judgment.)
(Learn more about deficiency judgments in general.)
A deed in lieu of foreclosure occurs when a lender agrees to accept a deed to the property instead of foreclosing. Basically you give the home to the lender and it agrees not to foreclose.
To avoid a deficiency judgment with a deed in lieu of foreclosure, the agreement must expressly state that the transaction is in full satisfaction of the debt. With a deed in lieu of foreclosure, the deficiency amount is the difference between the fair market value of the property and the total debt. If the deed in lieu of foreclosure agreement does not contain a provision waiving the deficiency, the lender may file a lawsuit to obtain a deficiency judgment. Again, if the lender forgives the deficiency, the forgiven amount might be taxable. (Learn more about deeds in lieu of foreclosure.)
If you find that you are unable to sell the property or complete a deed in lieu of foreclosure, sometimes a viable option is to find tenants for the property and then apply the rental income towards the mortgage. The downside to this is that the divorcing couple remains responsible for the property, as well as the mortgage, and will have to work together to manage the rental.
If one party in a divorce wants to keep the home, here are some options for doing so and avoiding foreclosure.
If one spouse wants to keep the house, that spouse can usually assume the mortgage and take over responsibility for the loan.
While many home mortgages have a “due-on-sale” clause, one spouse can generally assume the loan because of a federal law called the 1982 Garn-St. Germain Act. (A due-on-sale clause states that upon a sale or conveyance of the property, then the full loan balance will be accelerated and the entire balance of the loan must be repaid. If there is a due-on-sale clause, the mortgage usually cannot be assumed.)
Under the federal Garn-St. Germain Act, lenders may not enforce a due-on-sale clause if the property is transferred as a result of a divorce decree, legal separation agreement, or a property settlement agreement (even if the mortgage is in default). (12 U.S.C. § 1701j-3(d)). (Learn more mortgage assumptions and due on sale clauses in our article Avoiding Foreclosure: Can Someone Else Assume (Take Over) the Mortgage?)
Though federal law generally preempts state law, the Garn-St. Germain Act gave states that previously had enacted due-on-sale restrictions a three-year window to reenact the previous restrictions or enact new restrictions. Only a few states acted within this window period. Consequently, due-on-sale provisions in documents governed by the law of those states are not preempted by federal law. (For details about the law in your state, talk to an attorney.)
If one spouse wants to keep the property, another option is for that spouse to refinance the property in his or her sole name. This way, the co-borrower is released from the debt. In many cases, the terms of a divorce will require one spouse to refinance if he or she wants to keep the property.
Refinancing is generally possible in cases where:
Refinancing may not be possible if the property is severely underwater or you are already delinquent on payments for your current loan.
If assuming the mortgage and refinancing are not possible, another option if one spouse wants to keep the home, but cannot afford the current payments, is to apply for a loan modification.
A loan modification is a permanent restructuring of the mortgage where one or more of the terms of a borrower's loan are changed to provide a more affordable payment. With a loan modification, the lender may agree to do one of more of the following to reduce your monthly payment:
If both spouses signed the original loan documents, then both spouses will generally have to sign off on the modification. If one spouse won’t agree, this can kill the deal.
However, once a divorce settlement is finalized and one borrower is awarded the property, then that borrower can apply for a loan modification without the other. If that borrower qualifies for a loan modification, the co-borrower may be released from liability on the loan and his or her signature will not be needed, subject to any provisions in the divorce decree. (For example, if the divorce decree states the remaining borrower must refinance to remove the co-borrower from the mortgage, then a loan modification will not be approved.)
(To get information about loan modifications and other options to avoid foreclosure, see our Alternatives to Foreclosure area.)
Coming to an agreement on any of these options can be difficult during a divorce, especially if the separation is contentious. If you are trying to avoid foreclosure during divorce, it is recommended that you seek the assistance of a qualified attorney who can inform you about the different options that are available and can help you dispose of or retain the property.