Divorce and home loans: Your guide to buying a home after divorce

Going through a divorce is never easy. If you and your soon-to-be ex own a home together, it can be complicated. But a divorce also can mean a fresh start, one that might include buying a new home or refinancing your mortgage.

If your former spouse agreed to buy out your share of a home, you might be on the hunt for a new residence to purchase or rent. Maybe you’re in the opposite situation: You’ve agreed to buy out your spouse’s share of the home and you now want to refinance your mortgage.

You’ll need to apply for a new mortgage loan in both situations. Here’s a look at the steps you should take when jumping back into the mortgage market after you finalize your divorce.

What to consider when buying a house after divorce

You’ll face plenty of big changes when going through a divorce. One of these? You might need a new home and mortgage.

Fortunately, the professionals working in the mortgage and real estate industries understand this. They’ve worked with many people going through a divorce and can help guide you through the process of finding a new home or refinancing your mortgage.

Here are some of the big issues real estate agents and mortgage lenders can help you overcome when looking for a home or mortgage after divorce.

Income

A divorce could lower your borrowing power if you’re trying to finance the purchase of a new home. If you were formerly part of a two-income family before your divorce, losing your spouse’s income means that you’ll qualify for a lower loan amount if you aren’t applying for a mortgage with a co-signer or a new significant other.

Fortunately, you can offset this loss of income. Maybe you’re receiving alimony and child support following your divorce. If you can document that these payments will continue for several years, your lender will include them in your monthly income. This will help you qualify for a larger mortgage. It varies, but some lenders might require that you provide documents showing that you’ve been receiving these payments for 6 – 12 months before you applied for the loan and that you’ll receive them for at least 3 years after your mortgage application.

You might be the one paying spousal or child support after your divorce. Your lender will count this payment as part of your monthly debts and will include it in your debt-to-income ratio. Your DTI ratio measures the percentage of your monthly income that goes to paying recurring monthly debts like mortgage loans, auto loans, personal loans, student loans, and credit card minimum monthly payments. It also includes recurring monthly payments such as alimony or child support.

A higher DTI ratio will make it more difficult to qualify for a mortgage, with most lenders preferring that your monthly recurring debts, including your new mortgage payment, equal no more than 36% of your gross monthly income. Some lenders are more lenient, wanting your monthly recurring debts to eat up no more than 43% of your gross monthly income.

Under certain loan options, including those guaranteed by Fannie Mae, your lender can choose whether to count your child support or alimony payments as a debt payment or a reduction of income.

If alimony and child support payments have increased your debt-to-income ratio, you might have to look for a home with a lower price tag. That will leave you with a lower monthly mortgage payment, one that might not push your DTI ratio too high.

Assets

Divorce can be expensive, either straining or draining your finances. This, too, could make it more challenging to qualify for a mortgage.

Most loan programs require that you have a certain amount of money in savings. This can vary, but most lenders require that you have enough saved after paying your down payment and closing costs to cover at least 2 months of your mortgage payment, including your mortgage’s principal, interest, tax, and insurance payments. If your total monthly mortgage payment is $2,400, you’d need at least $4,800 in savings after paying your down payment and closing costs.

You’ll typically need to set up an escrow account, too. With an escrow account, you pay extra with each mortgage payment. Your lender deposits these extra dollars in your escrow account. When your property tax and homeowners insurance payments come due, your lender will use the funds in this account to pay these bills on your behalf.

Before your mortgage closes, your lender will require that you pay a certain amount into your escrow account upfront. This amount varies, but the Consumer Financial Protection Bureau says that lenders can only require you to pay enough upfront to make sure that your escrow account never carries a negative balance plus an estimated 2 months of estimated disbursements to act as a cushion. If your property taxes cost an estimated $500 a month and your homeowners insurance premium is $100 a month, you might need to deposit $1,200 in your escrow account to provide that 2 months’ cushion.

Going through a divorce might mean that your cash is low. You might want to wait to buy a home and apply for a mortgage until you can save up enough cash to satisfy your lender’s savings requirements.

Credit

A strong credit score can help you when you’re buying a home in your name only. The higher your credit score, the more likely you are to qualify for a mortgage, and the more likely you are to nab a lower interest rate, something that will reduce your monthly mortgage payment.

The best way to build a good credit score is to pay your recurring monthly bills on time. Every time you make an on-time payment on your mortgage, auto, student, or personal loans, your lenders report it to the national credit bureaus. The same happens when you pay your credit card bills on time.

Just don’t pay late. Paying more than 30 days past your due date on these bills will cause your credit score to plummet.

It helps, too, to pay down as much of your credit card debt as you can. The lower your credit-utilization ratio – a measurement of how much of your available credit you are using – the better it is for your credit score.

A credit score of 740 – 799 is considered “very good” and one of 800 or higher is “exceptional.” If your score is in those ranges, your odds of qualifying for a mortgage with a lower interest rate will rise, something that can be important if your finances took a hit during your divorce.

How to manage your old mortgage

Maybe you want your name off your mortgage following a divorce. This makes sense: If your name is still on the mortgage, you’re still responsible for paying off the loan, even if you no longer are living in the property. And if your former spouse is late with mortgage payments and your name is still on the loan? These late payments will cause your credit score to drop.

You have two options to remove your name from a mortgage following a divorce: You can ask your lender to release you from the mortgage or your former spouse can refinance a mortgage that is still in your name and your ex’s.

To release your name from the mortgage, you’ll need to present your lender with the right paperwork. This means submitting a divorce decree and a quitclaim deed. While some lenders might remove your name from the mortgage if you make this request, not all will. If the lender does remove your name, your former spouse will now be solely responsible for making the monthly payments.

You an also ask your ex-spouse to refinance the mortgage after the divorce. A refinance will pay off your old mortgage and start a new home loan in the name of your ex-spouse only. This isn’t always an easy option, though. Refinancing isn’t free, usually requiring closing costs equal to 3% – 6% of the loan’s remaining balance. Your former spouse might not be able to afford this after going through a divorce. Your lender might not approve a refinance, either, if your former spouse has a low credit score or a high amount of debt.

Whether it's a release or a refinance, you and your spouse need to work out mortgage plans in the divorce decree. If your ex-spouse is not cooperating, ask your divorce attorney for your options.

When you decide to stay in your current home

You might decide to stay in your home following a divorce. Doing this could reduce the stress you face following the break-up of your marriage. But keeping the home comes with its own challenges.

Whether you can stay in your home depends largely on your finances. If your former spouse contributed to the family's income, you might struggle to make your monthly mortgage payment on your own. Maybe you can afford the mortgage payments, but to do so you’ll need to reduce your other expenses, something that could lower your quality of life.

Refinancing your mortgage

Refinancing your mortgage to a new loan might be a good option. If your credit score is high and you can refinance your loan to a new one with a lower interest rate, you could shave potentially hundreds of dollars from your monthly mortgage payment.

Remember, though, that you will need a high enough credit score to qualify for the low interest rates that could save you money.

Requalifying for your existing mortgage

Another challenge with refinancing after a divorce? You’ll need to prove to your lender that you can afford your mortgage payments on just your income.

To verify this, your lender will ask for documents verifying your income, such as your recent paycheck stubs, tax returns and bank account statements.

If your lender determines that you can’t afford your monthly payment on your own, you and your former spouse might have to agree to sell the home.

Removing your ex from the title

If you’re refinancing your mortgage so that you are solely responsible for the monthly payments, you might also want to remove your former spouse from your home’s title. This takes away any rights to the property from your ex. 

You and your ex should consult with an attorney while taking this step. You’ll need to file a quitclaim deed to remove an individual from the property title. If you have not finalized your divorce, you can make signing the quitclaim deed a condition of your divorce decree.

Selling your current home

Depending on your financial situation, you and your spouse might choose or need to sell your home. This usually happens if the person who wants to keep the home doesn’t have a high enough income to make the property’s mortgage payments.

You and your ex-spouse need to agree on how to split the money from the sale. You should spell out the details in your divorce decree.

If you elect to sell your present home, contact a real estate agent who understands your market and can help you market your home to the deepest pool of potential buyers. Your divorce attorney might be able to connect you with an agent who holds the designation of Certified Real Estate Divorce Specialist, a real estate agent who has taken classes to learn how to best navigate home sales following a divorce.

Tax implications

Selling your home or buying out your ex-spouse's share of your home’s equity might come with a capital gains tax hit depending on how much you sell the property for.

Fortunately, there are exemptions that prevent many home sellers from having to pay this tax. If you and your ex-spouse lived at the house for at least 2 of the 5 years before the sale, the home is your primary residence and you and your former spouse profited less than $500,000 jointly from the sale, you won’t have to pay any capital gains taxes.

If you don't meet all these exceptions, expect to pay some form of capital gains tax after the sale. Consult a tax professional to avoid any unexpected tax bills.

Home equity

One key factor in deciding whether to sell your property after a divorce is the amount of equity you’ve built in your home.

Home equity is the difference between the value of your home and the amount you owe on your mortgage. If your home is worth $250,000 and you still owe $150,000 on your mortgage, you have $100,000 in equity. 

The more equity you’ve built, the greater your profit will be when selling after you subtract closing costs and any other fees you must pay. If you don’t have much equity in your home, you and your former spouse might not earn much from its sale. That could affect your decision to sell.

The bottom line: Buying a house after a divorce

Real estate is one of the biggest investments couples make together. Whether your ex-spouse stays in the home, you stay in the residence, or you sell it and split the money, you and your ex must determine how you will handle this asset after your divorce. 

Are you eager to leave behind your marital home or would you prefer the stability of staying put? Without your ex-spouse, do you have the income to cover the monthly mortgage payments? Or would downsizing to a new home make more financial sense?

No matter what you decide, it’s important to have the right people advising you. A good divorce attorney will help you avoid complications. If you're selling the home, a REALTOR® or real estate agent who specializes in selling for divorcing couples could help streamline the process.

And when you’re ready to make a real estate move following your divorce? Reach out to a Rocket Mortgage® Home Loan Expert to help you navigate the mortgage process.