Tax Provisions Affecting Family Law
Taxes affect every aspect of our lives, including divorce. Whether you can file a tax return together, your filing status, whether you can deduct alimony payments, tax consequences of property transfers and a host of other issues are determined by your divorce judgment or orders and the tax code.
I am currently in divorce proceedings. Can I file jointly with my spouse?
Yes. If a final judgment of divorce has not been entered by December 31, you are considered married and may file a joint return.
Can we, for the year in which we are divorced, file a joint return?
No. You must be married on the last day of the year (December 31) to file a joint return. You can go through with the divorce hearing before December 31, but wait to finalize the divorce (entry of the final judgment) until January. In such a case you can file a joint return for the previous year.
We have an income tax refund on account of last year’s tax returns. Who gets the refund?
If you filed joint returns for the previous year, the income tax refund check should be made out to both of you. The marital settlement agreement or divorce judgment should state how you and your spouse will receive or divide the income tax refund check.
I believe my spouse’s tax return is not honest. Must I file jointly?
No. You are able to file as head of household if you did not live with your spouse for the last six months of the tax year and meet the other head of household requirements. If not, then you may file as married filing separately.
What is a personal exemption?
A personal exemption is a deduction reducing taxable income. You receive one exemption for each dependent you claim. The amount of dependent exemption changes from year to year.
I am divorced and the “custodial” parent. The divorce judgment does not address who can claim the children as exemptions. Can I claim the children as exemptions?
Yes. The custodial parent is entitled to the exemption if both parents supported the child. Which parent actually paid child support is irrelevant.
Can I still claim the tax exemption if I signed IRS Form 8332?
No. IRS Form 8332 is a statement by the primary residential parent releasing the exemption. If the primary residential parent signs Form 8332, then only the non residential parent can claim the personal exemption for the child.
Can I claim the tax exemption if the marital settlement agreement or the divorce judgment gives the exemption to my spouse?
Yes and no. The party given the exemption in the marital settlement agreement, or the divorce judgment, is entitled to the exemption and you may be held in contempt of court if you claim the exemption. However, as far as the IRS is concerned, if the custodial parent has not executed a Form 8332, he or she is entitled to the exemption.
What is the Child tax credit?
The child tax credit is a $1,000 credit against the tax owed. It is available to parents with children under 17. The child tax credit is now set to sunset in 2012.
Can I claim the child tax credit?
Yes. However, you must also claim the exemption for the child.
As the custodial parent, what other tax credits might I qualify?
The primary residential parent is the only parent who can claim the child and dependent care credit. This is true regardless of which parent claims the tax exemption for the child. This credit is available if your child is under 13 and you pay child care expenses in order to work or seek work.
I pay maintenance payments to my former spouse. May I deduct the maintenance?
Yes. Maintenance payments are deductible by the payor so long as they are included in the income of the payee. But, to be included in the payee’s income, the payment must be in cash, or its equivalent, such as a check, under a divorce decree, and the maintenance must terminate upon the death of the payee. Payments that are ordinarily deductible are not deductible if the divorce decree specifically states that the payments are not alimony/maintenance and/or non-deductible. Because of the complex nature of ensuring the proper tax treatment, consulting with a lawyer in this regard is essential.
Can I combine child support and maintenance (alimony) and then deduct the entire amount?
Maybe. This is known as “unallocated maintenance and support.” The IRS, however, does not like to be finessed out of receiving taxes, and thus it is challenging to create an unallocated maintenance and support schedule that the IRS will not challenge. This is not a do-it-yourself kit, and generally is beyond the capacity of a lawyer who is not divorce-tax savvy.
A divorce is pending and my spouse and I continue to live in the same home. Can I pay temporary maintenance and deduct it?
No. You may not live in the same household and deduct maintenance payments.
What if I pay, pursuant to a court order or a written separation agreement, my spouse’s rent, the mortgage, tax liability on the residence, or my spouse’s college tuition payments? May I deduct?
Yes, but the mortgage, rent payments etc. cannot be deducted if you own the residence.
My spouse and I do not want the payments I make deductible or the payments she receives taxable to her. Can this be done?
Yes. Your agreement can state that there is no income tax deductibility or liability for the maintenance payments.
What tax consequences arise when property is distributed by a divorce judgment?
The general rule is that no gain or loss is recognized at the time of the transfer when property is transferred to a former spouse, so long as the transfer is incident to divorce. In order to be incident to divorce, the transfer must occur within one year after the divorce judgment is entered and the transfer must be included in the divorce judgment.
Are distributions from a pension plan taxable?
Yes, but the tax may be avoided by a rollover to an eligible retirement plan. In many divorces one spouse’s retirement plan is one of the most valuable assets in the marriage, and the other spouse may be awarded part of the retirement plan.
There are several options the recipient of a part of a retirement plan can exercise.
- The first option, and one to be avoided if at all possible, is to cash out the distributive interest in the retirement plan. A cash out means you will pay income tax on the entire amount of the distribution plus a 10% early withdrawal penalty.
- The second option, under which you pay no tax or penalty, is to cash out your interest in the retirement plan, then roll it over into another eligible retirement plan, such as an IRA: The rollover must take place within 60 days for the distribution to be tax-free.
- The third option is to take your interest in the form of a Qualified Domestic Relations Orders (QDRO). Under a QDRO, the pension plan administrator must carve out for you your interest in your spouse’s pension plan, and you will have the same rights in regard to the pension plan as does your spouse. The distribution is tax free.
We may have to sell the marital residence as part of the divorce settlement. Is the gain from that sale taxable?
Yes. However, gain from the sale of a property is excluded from income if it was owned and used as the taxpayer’s primary home for two of the last five years. This exclusion is limited to $250,000, or $500,000 in the case of a joint return. On a joint return, the taxpayers can exclude the full amount as long as one spouse meets the ownership requirement and both spouses meet the two year use requirement.
To meet these requirements, the taxpayer will be treated as using the property as a primary residence during any period that their spouse or former spouse is granted use by a divorce or separation agreement.
What about a loss when we sell the marital residence? How is the loss shared?
If you anticipate the loss before the divorce judgment it should be addressed in your judgment/marital settlement agreement. If the loss was not addressed by your agreement, or the judgment and the amount of the loss is significant, normal rules will apply. If you cannot resolve it with your spouse, you will spend money in lawyer fees. Generally, however, loss from the sale of your primary residence is a personal, non-deductible loss.
Where else can I go to find answers to my tax questions?
The IRS has a website at www.IRS.gov. Publication 504 provides additional guidance for divorced or separated individuals.
The income tax consequences of a divorce, especially one involving substantial income and/or substantial assets, are legally complex. You should receive advice from a lawyer who is divorce-income tax knowledgeable, or an accountant.