Student Loan Repayment Series – Part IV – Divorced with Debt
If your marriage is crumbling and you’re considering divorce, part of the process of splitting up is allocating both assets and debts to the partners in a marriage. Figuring out who is responsible for paying student loans may seem obvious – they should be paid by the one whose name is on them – but that’s not always the case. Also, if one party earns significantly more income or there are children involved, it can be a more complicated split.
Here’s some thoughts and tips on dealing with student loan debt during divorce as part of our repayment series:
Who Gets Custody of the Loans? You may think if your name is on the loan, it’s yours to pay after a break-up and vice-versa, but that’s not exactly apt. The courts tend to look at (if requested to do so by the attorneys) who benefitted from the loan. While we’re not offering legal advice, based on our research here are some scenarios you may encounter:
Scenario 1 – The spouses divorce just as the student loan borrower graduates. In this case, or in case of divorce before graduation, the non-borrowing spouse will receive no benefit from the education or the loan, so the loan would properly be assigned to the degree holder.
Scenario 2 – The spouses divorce many years after the borrower graduates, but the degree holder hasn’t been able to find full-time work in their degree area. In this situation, neither party is benefitting from the education, but the degree holder is anticipated to sometime in the future, so their loans would be solely their responsibility.
Scenario 3 – The spouses each incur student loans and both go to work after school. Both parties will benefit from their degree and their spouse’s degree. In this case, the court could leave each person with their own loans or could allocate the combined total of the debt between the two parties.
Scenario 4 – The spouses attend college at the same time but one spouse takes out additional loans to help cover household expenses while both are in school. After one spouse graduates, the other continues on to law school while supported by the other spouse who recently graduated. In this case, the law school attending spouse enjoyed benefits from the other spouse’s student loans and the court could allocate the proportion of the loans associated with maintaining the family home to the that party.
What About Alimony? If your divorce will likely result in an award of alimony, consider instead asking the court to assign your student loans to your spouse as part of the debt split in exchange for foregoing alimony. Why? Alimony is taxable income to the recipient. But if, instead of alimony, a larger share of your debts are paid you may come out better on taxes. If that’s not a possibility, consider asking for increased child support and no alimony since child support isn’t taxable to the recipient. If you are the party who will be paying the child support or alimony, the reverse of this advice applies to you.
What About Consolidated Loans? If you and your spouse both had student loans and consolidated them jointly (now only possible in private student loans) you will likely both be considered jointly responsible. If for some reason the consolidation ends up issued in just one borrowers’ name, that person will be held responsible. Most student loan consolidation documents specify that divorce or death of one party will not change the obligation and even if courts decide differently, student loan companies have been able to prevail on appeal.
What’s the Best Repayment Strategy for Stressed Borrowers? The best way to get rid of your debt is to pay off as much as you can as soon as you can in order to unload the debt the fastest way possible. If, however, your income is tight, you have custody of children from the marriage and life is a financial struggle even with child support (and/or alimony) you may want to consider income based repayment (IBR), income contingent repayment (ICR) or Pay As You Earn (PAYE) to lower your monthly payment amount.
If your children are young, you may want to stay on IBR/ICR/PAYE up until the 20-25 year forgiveness mark which should allow you to see your children out of college. IBR, ICR and PAYE set payments based on your income and the number of dependents in your home. Child support will not count as income for this calculation. Suppose you have student loan debt of $28,000 at 6.8%, your monthly payment would be $322 on a 10 year repayment plan. That’s likely not manageable if you’re earning $35,000 per year, receiving child support of $9,400 ($700 per month) and paying all the costs associated with raising children such as orthodontia, pricey speech therapy and more.
Comparing the Plans
See the chart for a comparison of the various ways this loan balance could be paid. The cheapest option is PAYE where your payments would max out at 10% of your discretionary income. With two children to support and modest earnings, your payments could stay low or non-existent. Even with the tax impact of a high balance forgiven, this is still the most advantageous plan assuming that you don’t start earning beaucoup bucks and have to start paying major payments. If this happens, an adjustment to your strategy may be in order – but that’s for later in life.
IBR is the next most favorable option – even taking into account income taxes accrued with forgiveness – unless your income skyrockets. Looking at the notes on the chart, you can see that both IBR and PAYE will see interest accrued capitalize because the payments don’t cover the minimum monthly interest incurred. If you remarry and your spouse has significant income, another consideration is whether it’s more advantageous to file taxes separately to keep your income based payments low or to file together and potentially be disqualified from the lower payment programs but qualify for other tax advantages associated with joint filing status.
The first step toward mastering your debt is educating yourself about how much you owe and what your options are. For that purpose, try Tuition.io’s totally free and award-winning student loan tool to see all your loans in one easy interface, check out repayment options and monitor your payments made and pay-off dates. Please also check out other posts on our blog to help you get on the right track with your payments!