When a new tax season is upon us, we are often asked by our clients what tax considerations come up in divorce. If you have recently divorced or are considering divorce, here are 10 tax issues that arise in divorce
1. Child Support
Child support payments are not tax-deductible by the parent paying child support and are not included in the income of the parent receiving child support.
For divorce settlement agreements entered after December 31, 2018, alimony payments (spousal maintenance) are not tax-deductible for the spouse paying alimony and are not taxable to the spouse receiving alimony.
3. Taxes on Divorce Settlement
As a general rule, property acquired during the divorce is a non-taxable event for federal income and gift taxes.
4. Tax Filing Status
You look at your marital status on December 31st of the tax year to determine your filing status. If your divorce is not final, you can file a joint return or file separately, but the designation will be “married filing separately” not “single”.
5. Head of Household
You can file as “Head of Household” if you are not married or are legally separated by December 31st of the tax year, or if you have not lived with your spouse for the last six months – and have paid for more than one-half of the costs to maintain the household and you dependent children who have lived with you more than half of the year.
6. Retirement Assets
To transfer a portion of a qualified retirement plan in a divorce settlement, you have to have a qualified domestic relations order (QDRO) issued by the Court. If the QRDO is done properly this should not cause any tax consequences.
7. Retirement Assets Tax
Different types of retirement assets have different tax consequences which you must understand when negotiating settlement and division of assets. Retirement assets that seem to be comparable as apples to apples are actually comparing apples to oranges which could cause a different financial picture than you anticipated. A traditional IRA is taxable when it is distributed meaning that if you receive a traditional IRA in your divorce settlement you will be paying taxes on the money when it is paid to you. Roth IRAs are funded “after tax” so there is no tax due on the money when it is distrusted to the recipient.
8. Name Change
If you change your name after your divorce, you must notify the Social Security Administration and file the proper forms and obtain a new social security card. Your name on your tax return must match the records of the Social Security Administration.
9. Capital Gains Taxes
When you sell your principal residence, you and your spouse can each exclude the first $250,000 of gain from your taxable income. A principal residence is defined by the IRS as a “home you’ve lived in for at least two of the last five years.” The capital gain is the selling price of your home minus the selling expenses and the amount you paid for or put into it.
If you sell your house together you are entitled to the total $500,000 exclusion. If you buy out your spouse’s share in the divorce, your spouse does not have to worry about capital gains, but you will when you sell it – you will only get your share which is a $250,000 exclusion. If you have a home selling for $800,000 and you have owned it for 30 years with a basis of $200,000 the gain would be $600,000. If you sold the house together you would have to pay taxes on the $100,000 gain. If you bought out your spouse’s share and then sold it, you would have to pay taxes on a $350,000 gain.
10. Protection from Joint Returns Previously Filed
If you have filed joint tax returns with your spouse during your marriage, it is important to have your spouse acknowledge that they will transmit to you upon receipt copies of all notices, writings, and other communications from the Internal Revenue Service or State Revenue Service pertaining to any joint return filed so that you are aware if a problem arises. A recent or impending divorce will not relieve you of responsibility for obtaining this important information.