There is a lot of confusion and misunderstanding about equity buy-outs during a divorce. Is it a mortgage or is it a process?
An equity buy-out is a process of acquiring the equity ownership of an existing legal owner of real property. Acquiring the equity ownership in the marital home from an ex-spouse is most commonly done by refinancing the existing mortgage.
When a divorce involves refinancing the marital home, divorcing borrowers typically are looking to pull equity out of the home in order to buy out the other spouse’s equity ownership. Although the divorce settlement agreement may outline the details of the transfer of ownership, it does not determine what type of financing is available for the divorcing borrower.
What is an Equity Buyout?
The name, equity buyout confuses some people into thinking they have to purchase the house from the other spouse. This isn’t true, an equity buyout is actually handled as a refinance loan, not a purchase loan. Now, there are two types of refinances we need to consider because just because the court orders one party to buy the equity out of the other party, that doesn’t dictate the type of refinancing category it will fall under and each one has its own limitation and requirements to be met.
Two Types of Refinances to Consider When Going Through the Divorce Process
The two types of refinances are either a Rate/Term refinance or a cash-out refinance. Rate/Term refinances typically have better terms with regards to lower interest rates and access to more equity. A cash-out mortgage, on the other hand, may carry a higher interest rate and typically only allows the borrower to access up to 80% of the home’s value, which can present a problem when the goal for the refinance is to actually access the equity, right?
The divorce settlement agreement needs to be structured in such a way that the divorcing borrower can refinance as a Rate/Term – equity buyout. The loan structure will allow the divorcing borrower to access the equity in the home without the higher pricing adjustment or even the ability to refinance at all.
Specific Requirements a Divorcing Borrower Needs to Meet
There are specific requirements that the divorcing borrower needs to meet; however, in order for the refinance to be structured as a Rate/Term equity buyout. There may be title seasoning issues, specific wording in the divorce settlement agreement among other issues.
In order for an equity buyout to be classified as a rate/term refinance it must meet the following requirements:
- The equity buyout must be addressed in the homestead or real estate section of the marital settlement agreement – basically meaning it must be addressed independently. It may not be included in say an addendum that identifies all marital assets and the equity distribution absorbed into the total division of the marital estate.
- Absolutely no cashback is allowed to the borrower for debt consolidation, attorney fees, etc. Literally, not one penny can be due to the borrower at closing – even if it is the result of overestimated fees.
- The borrowing spouse must have been on title for the previous 12 months. This is a key factor if for example the mortgage and title were held in the husband’s name and the wife was awarded the marital home and needs to refinance the home. Even though the court order makes her a Successor of Interest which then allows her to refinance the home even if she isn’t on the current mortgage, again the court can’t dictate which category of refinancing is applicable.
Why You Should Involve a CDLP When Working Through an Equity Buyout
As we mentioned above, a divorce that involves an equity buyout can be super messy. It is always important to work with an experienced mortgage professional who specializes in working with divorcing clients and has a firm grasp of the different types of refinances involved with an equity buyout
A Certified Divorce Lending Professional (CDLP®) brings tremendous value to the divorce team during the settlement process. Their background knowledge of family law, financial and tax planning, real property, and mortgage financing allows them to better support and assist the divorce team and divorcing homeowners.
Working with a Certified Divorce Lending Professional (CDLP®) and incorporating Divorce Mortgage Planning into the divorce settlement may help both spouses obtain new mortgage financing post-divorce.
Contact a CDLP® today for a copy of the Divorcing your Mortgage Homeowner Workbook, a guide to credit, real estate, and mortgage financing after divorce. This workbook will help you get organized, be prepared, and understand your mortgage financing position whether you are needing to refinance the marital home in an Equity Buy-Out situation or prepare to sell and purchase a new home post-divorce.
This is for informational purposes only and not for the purpose of providing legal or tax advice. You should contact an attorney or tax professional to obtain legal and tax advice. Interest rates and fees are estimates provided for informational purposes only and are subject to market changes. This is not a commitment to lend. Rates change daily – call for current quotations. The information contained in this newsletter has been prepared by, or purchased from, an independent third party and is distributed for consumer education purposes.
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