Divorce-Proof Your Wealth: Top Tips for High-Net-Worth Clients

As a divorce financial planner assisting high-net-worth clients, I help them avoid very expensive mistakes during the divorce process. Divorce can be extremely expensive, not only because of the legal fees but also due to a lack of awareness about their complete financial situation. Particularly for high-net-worth individuals, who often possess diverse asset portfolios, it is absolutely a must to understand and properly segment these assets. Today, I will guide you through the process of asset segmentation, highlighting three key categories:

Liquid vs. Illiquid Assets

It is crucial to differentiate between liquid and illiquid assets to grasp their impact on your financial standing. Cash in your checking account represents a liquid asset, readily available for use when needed. On the other hand, a real estate property is an illiquid asset. While some may argue that they can sell their house relatively quickly, this depends on the housing market and might not always be feasible. Moreover, you might be able to access part of the property value through a Home Equity Line of Credit (HELOC) but you need to apply and qualify for one by fulfilling specific criteria, such as credit score, income amount, and cash flow. It’s essential to recognize that having one million dollars in a checking account is not equivalent to owning a one-million-dollar house.

Real estate properties are not the only ones to be considered illiquid. There are considerably illiquid investments such as Private Real Estate Investment Trusts (Private REITs) that are not available to trade on national stock exchanges. They can be less liquid as some REITs are liquidated monthly on a specific date or even worse, they might require you to get approval before liquidating the asset. Understanding the liquidity of assets is vital for making informed decisions.

Taxable vs. Non-Taxable Assets

Another common and costly mistake is failing to consider the taxable status of various assets. Some assets are fully taxable while some assets are partially taxable. It could also be different tax rates depending on a person’s taxable income.

Divorce attorneys are adept at legal matters, but they might lack expertise in financial planning intricacies. Consequently, they may overlook the tax implications of certain assets, potentially resulting in hefty taxes and penalties for the client. For instance, a portion of an individual’s IRA contribution may have been tax-deferred, while the remainder was already taxed within the same tax year. Many people are not even aware there could be a Roth contribution amount within the same 401(k). The Roth contribution will come out fully tax-free including its growth while non-Roth 401(k) is fully taxable. Failing to recognize such nuances can lead to significant financial losses. Identifying taxable and non-taxable assets is fundamental for accurate asset valuation during the division process.

Tangible vs. Intangible Assets

Dividing assets into tangible and intangible categories is equally vital. Intangible assets, being non-physical, can be challenging to value accurately. Seeking professional valuations can be immensely helpful in such cases. Business owners, for example, might undervalue their revenue or the overall worth of their business. Additionally, there may be hidden assets under the business’s name or personal expenses that have been written off, complicating the asset division process. Similarly, royalties from intellectual property must be accurately calculated to ensure fair distribution between spouses.

Understanding these asset categories is crucial, as overlooking these distinctions can prove to be the most expensive mistake during divorce proceedings. Incorrect categorization may result in a lot less money due to taxes or penalties. Moreover, the decision to retain illiquid assets, like primary residences, should be evaluated against the available liquid assets. Having enough liquid assets to cover immediate expenses and attorney fees is critical before committing to long-term or illiquid assets. As a rule of thumb, I advise clients to maintain at least six months’ worth of living expenses in liquid short-term assets during and after the divorce, factoring in potential fees and liabilities.

In conclusion, preserving wealth during a high net-worth divorce hinges on correctly understanding, categorizing, and valuing assets. It can safeguard your financial well-being, ensure a fair and equitable division of assets, and be so much more cost-efficient by seeking professional financial guidance and collaborating with a team of divorce professionals who understand these intricacies.