After 31 years of marriage, it finally happened.  Her husband told her he wanted a divorce. This wasn’t “in the heat of the moment” stuff, but a non-emotional directive.  He wanted out and that was that.

It wasn’t completely unexpected but it was still jarring.  And painful.

Once past the initial shock, her thoughts turned to the realities of divorce and the decisions that needed to be made.  Her first thought was “where am I going to live?”

 

What to Do With the House

 

“Where am I going to live” is not only a financial question, but an emotional one.

Buying a home is often the most expensive, and emotional, financial purchase we ever make.  It goes beyond four walls and a roof, beyond the money. For some, their home is their identity.  For others, it represents safety and security, it’s their sanctuary. For many moms, there’s the added emotions of “this is where I raised my children” and it hits them hard.

Unfortunately, emotions don’t provide clarity; they cloud judgment.

When the subject of the house came up with her divorce attorney, she was confused and unsure about what to do.  Buy out her husband and keep it? Have him buy her out and let him keep it? Sell it outright?

Her attorney suggested she meet with a realtor to get a value for the home and explore her options.

By the time I met with her, she had already met with the realtor and had some numbers.

Here’s how it went:

    • Based on your income, your earnings support $4,000 in credit and housing debt
    • Of that, $2,800 could go towards the home
    • Your monthly non-housing debt (i.e. credit card, car loans, etc.) could be a maximum of $1,200
    • Currently, you’re at $725 per month for your car, student loan, and credit cards, so you’re fine there
    • The home we’re looking at is around $2,250 per month including property taxes, insurance, PMI

On the surface, this seems reasonable.  Consult with an expert who can tell you your options.

The problem is they were putting the cart before the horse.

Yes, it’s true, she should know the value of her home; no problem there.  But, it was far too early to be looking at new homes and pricing out payments.  Had they considered not jumping into a mortgage again, maybe renting for a year?

 

 

 

 

A better approach is to first determine how much home she could afford and then tailor our search based on this number.  Looking at homes this early in the process, particularly in cases of divorce, often leads to unnecessary emotional strife (looking at homes you can’t afford) or financial struggles (buying the home anyway).

 

Bankers Have No Idea What You Can “Afford”

 

We often look to bankers (and car dealers) to tell us how much of a home/car we can afford.  After all, they’re lending us the money so they should know, right?

Wrong.

Banks have no idea what you can “afford.”  When they tell you you’re eligible for a $2,800/month mortgage payment, this does not mean you can “afford” it.  It just tells you the upper limit of how much the bank will lend you.

 

There’s a major difference between how much a bank will lend you and whether or not you can afford it. 

 

Borrowers often conflate the two which all too often leads them to buy too much home.  By the time they realize their mistake, it’s too late. They’re stuck with a payment that haunts them for years or even decades to come.

A better approach is to start by calculating what you can afford and then go looking for homes in that price range.

This is the approach we took.

 

The “How To”

 

There are several steps to this process but if you take them one at a time it’s totally manageable.  You don’t need mad math skills for this to work for you. The stakes are high so it’s worth a little extra effort to get this decision right.

The first step is to calculate your monthly take-home pay.  Take-home pay is the amount you receive after taxes and all other deductions have been taken out of your pay.  In short, it’s the amount deposited to your bank account.

In this case, it was $5,875 per month.

We then added up all of her committed expenses.  This includes any liabilities (car loans, credit card debt) and monthly expenses she couldn’t realistically avoid (i.e. groceries, utilities).

 

 

 

After paying her committed monthly expenses, she had $3,160 for the rest of her monthly spending including the new mortgage.   

If we plug in the mortgage number from above, here’s how it looks:

 

 

 

This means she’d have $910 per month left over for “lifestyle spending.”

We then listed her most common lifestyle spending:

 

 

 

We didn’t plug in numbers in each category because: 1) it isn’t necessary and 2) we’d just be making up numbers.  Knowing we have $910 to cover all of these expenses is good enough. [See Budgets Are Bullshit for a better way to manage cash flow.]

Finally, we listed future spending/savings needs not currently being addressed:

 

 

 

Armed with this information, we could (finally) have a realistic discussion about how much home she could afford.  She could weigh the impact of buying more or less home against how it would affect her lifestyle spending.

To understand the give-and-take relationship between the new mortgage and lifestyle spending, think of it as pulling on a string.

If you pull the string (money) towards the home, it means pulling dollars away from lifestyle spending.

If you pull the string towards lifestyle spending, it means pulling dollars away from the home.

 

 

 

You can’t have it both ways.

You can’t increase your mortgage payment without concurrently decreasing your lifestyle spending.  Conversely, you can’t increase your lifestyle spending without decreasing the amount of home you buy.

The good news is you get to choose what’s more important to you.  It’s entirely within your control.

 

Not Just for Divorce

 

This “pulling on a string” dynamic isn’t just true in cases of divorce but all situations where you’re making a long-term financial commitment.

The next time you consider taking on a long-term financial obligation and need to know if you can “afford it,” walk through the steps outlined above first.  The true cost of the decision – both in financial terms and in lifestyle spending – will be evident and put you in the best position to make an enlightened decision.

 

 

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