Shortly after Kim and David (a fictional couple based on real-life circumstances) married, Kim went to graduate school for training she needed to advance her career. She took out loans to pay the tuition. Come graduation day, she had significantly higher earning potential… but she also had significant student loan debt.
Since her graduation, Kim and David have been paying down those student loans. They make monthly payments from their joint checking account, just as they do for their mortgage and utility bills. The interest rate is favorable, and they’re making progress, but there is still some time to go before the loans are completely paid off.
Now, Kim and David are divorcing. Hoping to avoid a trial, they have agreed on a plan for dividing their assets and most of their debts. The loans for Kim’s education, though, are proving to be a stumbling block. David contends that Kim’s loans are her responsibility alone, and that once their marriage is legally dissolved, he should bear no responsibility for paying them back. Kim counters that they both enjoyed the benefits of the higher income she’s earned since furthering her education, and that therefore, they should share the burden of paying for her advanced degree.
Who’s right? As I’m sure you know, many professional couples carry debt from financing their educations – these days, it’s not unusual for student debt to reach well into six figures! So, if a person incurs this debt while they’re married, who’s responsible for paying it when the marriage ends? Are student loans considered separate, or marital debt?
As with so many other things in divorce, there is no simple answer, and many factors must be considered before a fair determination can be made. Before we discuss considerations specific to student loans, let’s review some basics.
In dividing assets and debts in divorce, two distinctions are critical: 1) the difference between separate and marital property, and 2) the difference between “community property” states and “equitable distribution” states.
Separate property is defined fairly consistently from one state to another, though there are differences in some details. Generally speaking, it includes:
- property owned by either spouse before the marriage or obtained by either spouse after the Date of Separation,
- inheritances received by either spouse,
- gifts to either spouse from a third party,
- payments for pain and suffering in personal injury suits and
- property designated as separate property in a prenuptial or postnuptial agreement, if any.
All else is considered marital property, and how that gets divided in divorce depends on whether you live in a “community property” state or an “equitable distribution” state.
In a community property state, spouses are considered equal owners of all marital property, and assets are split 50-50. But most states are equitable distribution states, in which the division of marital assets is more complicated. No matter which of them is listed as the owner of a given asset, each spouse has a legal claim to a fair and equitable portion of its value. Remember that “fair and equitable” doesn’t necessarily mean “half.” The Court considers many factors to determine what constitutes a fair and equitable distribution of marital property.
Of course, both assets and debts must be divided in divorce. Debt is generally divided using the same principles that are used to divide assets, though of course nobody’s in a hurry to grab that side of the balance sheet! Obviously, divorcing spouses do their utmost to come away from the marriage with maximum assets and minimum debt. Marital debt to be divided may include:
- loans for cars, boats and other vehicles,
- personal loans (and some business loans) and
- credit card debt.
Many couples, like Kim and David, must add hefty student loans to this list. So how are student loans handled in divorce? Here are five key factors that need to be considered:
1. What was the money used for?
Kim used her student loans to pay tuition, school fees, books, etc. in pursuit of her degree. It often happens, though, that money borrowed in school loan programs goes toward living expenses or other costs. If student loan money is used for purposes other than directly paying for school, it will more likely be considered marital debt from which both spouses benefitted.
2. If the borrower earned a degree, is that degree considered separate or marital property in your state?
If the loan paid for a professional degree which is considered the separate property of one spouse, then the debt is considered separate debt. However, in some states (New York among them), professional degrees are considered to be marital property. Debt incurred to obtain marital property is more logically considered marital debt.
3. Who has benefitted from the degree-holder’s increased earning power, and for how long?
In determining the disposition of student loan debt in divorce, the key question is not who incurred the debt, but who gained from it. If Kim and David had divorced shortly after she graduated, the student loans would more likely have been considered separate debt. However, in the years since she earned her degree, they have enjoyed a very nice lifestyle, financed in large part by her income. That’s a good case for considering her student loans to be marital debt.
4. What is the earning power of each spouse?
As part of calculating “equitable distribution,” each spouse’s ability to support themselves and their dependents is assessed. If David had no significant income or earning potential of his own, for example, a court would be less likely to deem it fair to have him pay Kim’s student loans.
5. How does the student loan debt affect your tax exposure?
The benefits or consequences to your tax exposure of paying off student loans may make it more or less desirable to assume that debt over other types of marital debt that will be divided in your divorce. Kim’s best move might be to agree to pay off the student loans herself, but insist that David assume a greater share of another debt. Negotiating strategy, though, is not something the court will help her decide; she’ll need a divorce financial advisor to evaluate all the angles to the problem and advise her what’s best.
Understandably, Kim and David are both angry at the idea of being unfairly saddled with debt. The debate is prolonging their divorce and making it much more contentious than it had to be. Had they executed a post-nuptial agreement about the student loans before borrowing so substantially, there would be nothing to argue about! A postnup could have specified how student debt would be paid in the event of a break-up. Such agreements also provide a foundation for clear communication about finances that I believe should underlay every marriage. The advice comes too late for our fictional friends, but perhaps not for you.
Jeffrey Landers is a member of the DailyWorth Connect program. Read more about the program here.