Tax Considerations of Divorce
There are a number of tax considerations that need to be reviewed during and after a divorce. These decisions can have an impact on your financial future and your children. To avoid unexpected surprises and financial hardship, you should keep the following tax considerations mind:
1 – Filing Status. The issue of filing joint or separate taxes exists until the divorce becomes final. A taxpayer’s marital status is determined as of December 31. So if the Court has issued a divorce decree by December 31, you will file as single. However, if you have not been granted a divorce by December 31 – either because the case is still in court, or because you have just separated in contemplation of divorce – then you have a choice. You can either file as “married filing separately” or file a joint return.
However, if you file a joint return with your estranged spouse, you have joint and several liability for deficiencies on the return. This means that you are responsible as a couple and individually for errors on your return. You may also be liable for any deficiencies the IRS finds. The IRS can pursue either or both spouses for the back taxes and penalties, regardless of any agreement you had with your spouse. If you are concerned that your spouse may have unreported income, inaccurate deductions, or any other omissions, it would be wise to file separate returns.
2 – Dependency Exemption. Who gets to claim the child is sometimes a contentious point in divorce negotiations. Generally, the dependency exemption goes to the custodial parent under the Internal Revenue Code Section 152(e). The parent with whom the child lives for the greater number of nights is the custodial parent. If the child lived with each parent for an equal number of nights, then the parent with the higher adjusted gross income is considered the custodial parent.
However, many parents agree to share the dependency exemption in their separation agreement or settlement agreement. The custodial parent can waive their right to the exemption and allow the non-custodial parent to claim the exemption via IRS Form 8332. The release can cover a year, specific multiple years, or all future years. It is critical that both parents do not claim the exemption, or else the return that was filed last will be held up and rejected by the IRS.
3 – Alimony and Child Support. Alimony that is paid as part of a divorce or separation agreement is income to the recipient and deductible for the payee. Those with high incomes can reduce their taxable income by paying alimony. Child support, on the other hand, is not income and is not deductible. The divorce decree or separation agreement should clearly spell out what is considered child support, and what is classified as alimony.
4 – Attorney’s Fees. Fees paid to a lawyer for tax advice may be deductible. You can deduct fees for research and advice on property transfers and dependency exemptions (subject to the two percent benchmark for miscellaneous expenses). However, in order to deduct attorney’s fees for tax advice, the bill must specify how much time was spent devoted to tax issues.
These are just some general tax considerations to be aware of during a divorce. It’s also important that you discuss any tax consequences of divorce with your accountant.