Divorcing couples have financing options

SANTA CRUZ (November 2, 2008) - One of my readers called to say she was getting a divorce and wanted to find out how she could keep the home that she currently owns with her soon-to-be ex-husband. Following a divorce it is common practice for one of the spouses to agree to be removed from the title of the property, which is just a matter of filing and recording a quit claim deed with the County.

The matter gets much more involved when dealing with the current mortgage holder. If both husband and wife are on the loan that is currently on the property, merely removing the name of one spouse from the title does not alleviate the responsibility of that spouse from the mortgage. Even if the remaining spouse can qualify for the mortgage, lenders are reluctant to relieve the departing spouse from the mortgage paperwork and resulting obligation.

If both husband and wife stay on the loan after the divorce, the spouse that moves out will be challenged to buy another house with the old mortgage still showing up on his or her credit report. Once the departing spouse can prove that he or she is no longer involved in making the payments (12 months of cancelled checks showing the ex spouse is now making the payments), the new lender will set that previous obligation aside.

Unfortunately, the other consideration is that if both remain on the loan, both credit reports will suffer if the responsible spouse does not make the mortgage payments on time.

I suggest that when one of the spouses in a divorcing couple wants to keep the house, the borrowers request the lender to formally release the departing spouse from the mortgage obligation. Although it is not the rule, I have seen this work successfully on a limited number of occasions. Be aware that this process could take many months.

Otherwise, the only solution is to refinance the mortgage in just the one spouse’s name. This may be necessary anyway if the departing spouse is expecting to receive a portion of the home’s equity in cash. In this case, a new mortgage that is large enough to replace the current mortgage plus provide the cash for the departing spouse would be required. Incidentally, since this cash will be used to pay back the departing spouse, lenders are more relaxed about their ‘cash-out’ rules than they are with a typical refinance.

In order for this to happen, the home’s value has to be large enough to accommodate the new mortgage (lenders typically do not want to loan more than 90 percent of a home’s value for refinance purposes) and the borrower must be able to qualify for the new mortgage based on his or her income, job stability and credit. The exception here is that FHA will allow a non-occupant to be a co-signer on the loan to help the occupant qualify for the mortgage in the event the borrower does not make enough money to qualify on his or her own.

Unlike the days of old, virtually all lenders today require income documentation and in order to qualify for a mortgage, lenders are scrutinizing the borrower’s Debt-To-Income ratio (DTI). This is the ratio of the borrower’s long term monthly debt (full house payment, car payment, credit card payment, etc.) divided by the borrower’s gross monthly income. Although there are exceptions, lenders generally require this ratio to stay under about 55 percent.

If the borrower is self employed, the income used to calculate the DTI is the two year average of the ‘Net Profit’ from Schedule C of the borrower’s Federal tax returns. Since depreciation is generally just a paper loss, it can be added to the net profit for mortgage qualification purposes.

This column is written every Sunday by Peter Boutell, Certified Mortgage Planner and a principal at Santa Cruz Home Finance. You may reach him at (831) 425-1250 of email him at Peter@SantaCruzHomeFinance.com.