As if taxes aren't complicated enough, it can get worse during a divorce or separation. There are certain things that individuals going through the divorce process -- or who are recently divorced -- should keep in mind when preparing their taxes.
First, you are going to need to consider your filing status (i.e. "Married Filing Jointly," "Married Filing Single,'' "Head of Household," etc.) The IRS only cares about one day in terms of whether you are married or not, and that is December 31. If you are married on December 31, then it is as if you are married for the whole year -- whether you married on New Year's Eve, or 20 years prior. Likewise, if you get divorced by December 31, it is as if you are divorced for the whole year. So, if your divorce was final by December 31, 2012, then you do not have the option of filing as a married person for your 2012 taxes. Your filing status options are "Head of Household" or "Single."
Typically, "Head of Household" is going to provide a slight tax advantage over "Married Filing Single" or "Single." However, one should make sure that the requirements to file as "Head of Household" are met:
- Whether the taxpayer paid more than one-half of the housing costs during the year;
- Whether the taxpayer lived apart from his or her spouse during the second half of the tax year in question; and
- Whether dependent child(ren) lived in the home for at least one-half of the year.
However, taxpayers can negotiate and contract around this requirement. In other words, the parent with more than 50 percent of the custodial time may elect to let the other parent claim the child as his/her dependent, but must do so in writing and must execute the required IRS form (Form 8332). If the parents did not negotiate or otherwise come to an agreement on who would claim the child as a dependent, then both parents must file the IRS regulations using "time with the child" as the decision-maker.
What about paying support (child or spousal)? Regularly, my clients ask about the deductibility of child support. I hate to break it to them, but the IRS will not accept a deduction for paying for the support of one's own children. In the agency's eyes, it is a parent's legal obligation to financially support his/her child. However, under many circumstances, alimony -- or, spousal support -- is tax deductible to the paying spouse and taxable to the receiving spouse. There are certain clawbacks to look out for and a laundry list of requirements, so consult your licensed CPA, but there is potential for a tax deduction and/or the creation of taxable income related to alimony or spousal support that should be investigated.
The transfer of property from one spouse to the other -- whether it is real estate, an investment account, a retirement account, cash, or personal propert -- if made pursuant to a divorce, is not a taxable event. This also includes gift taxes. As the law sees it, you are not making a gift to your spouse or former spouse, you are simply giving him/her their share of the marital estate. The property transferred will retain its original basis for tax purposes so that when it is sold, cashed in, or otherwise disposed of at some point in the future, the tax basis is the same as it was with the spouse who originally held title to that asset. For example, if a husband transfers one-half of his brokerage account to his wife, pursuant to a divorce, the initial transfer is not a taxable event for either individual. However, if the wife starts to liquidate the investments down the road, she will have to pay taxes on those investments based on the original basis in the stocks, bonds or other investments just as if the husband had sold them himself.
Any loss carried forward that the taxpayers have been utilizing will remain available to the taxpayer who held title to the asset. In the event the loss was a result of a jointly titled asset, the IRS presumes that each party gets one-half of any remaining loss carry forward.
Taxes can be complicated in any year, but in the year of divorce -- and even subsequent years -- when marital assets are sold or otherwise disposed of or alimony is paid or/received, the tax consequences can be more complicated. Any person who is divorced or thinking about getting divorced should certainly consult with a CPA to ensure that the tax affect related to marital assets and support is taken into account.
Kathleen B. Connell is a partner and family law attorney with Boyd Collar Nolen & Tuggle, LLC (Atlanta). She serves clients involved in a variety of family law matters, including divorce, custody arrangements, pre- and post-nuptial agreements, and related services. In addition, her financial background - she holds both undergraduate and master's degrees in accounting - enables her to provide guidance on general questions impacting her clients' financial health. She may be reached at email@example.com or (770) 953-4300.