6 Tax Tips for Divorcing Couples
Divorce generally involves division of assets and property. Many times people forget about important tax considerations when getting a divorce. If you are looking for a divorce lawyer in Dublin, Ohio, one thing to consider is whether the attorney can help you understand the specific and sometimes complex financial issues that arise during a divorce.
Here are 6 tax tips for divorcing couples.
Tip 1: Some Attorney Fees Might Be Tax Deductible
Some of your attorney’s fees can be taken down by maximizing the deductibility. The costs of getting a divorce are personal and are not deductible (I.R.C. 262; U.S. v. Gilmore, 372 U.S. 39 (1963)). But, you may be able to deduct legal fees paid for tax advice in connection with a divorce and legal fees to get alimony. In addition, you may be able to deduct fees you pay to appraisers, actuaries, and accountants for services in determining your correct tax or in helping to get alimony.
Fees you pay may include charges that are deductible and charges that are not deductible. You should request a breakdown showing the amount charged for each service performed. You can claim deductible fees only if you itemize deductions on Schedule A (Form 1040). Claim them as miscellaneous itemized deductions subject to the 2%-of-adjusted-gross-income limit.
Deductible costs may include:
Fees for tax planning.
Fees for obtaining taxable income.
Fees for securing interest in qualified retirement plans.
Tax planning will be necessary to maximize the advantage of deductibility. Other tax deductible costs, such as paying for tax return preparation, should be paid in the same calendar year as the attorney fees. If the attorney fees are paid over more than one year, the deductible portions of the fees may have to be prorated over the years paid.
Tip 2: Alimony is Tax Deductible, Child Support is Not
Alimony is a payment to or for a spouse or former spouse under a divorce or separation instrument. It does not include voluntary payments that are not made under a divorce or separation instrument.
Alimony is deductible by the payer and must be included in the spouse’s or former spouse’s income. Although this discussion is generally written for the payer of the alimony, the recipient can use the information to determine whether an amount received is alimony.
To be alimony, a payment must meet certain requirements. There are some differences between the requirements that apply to payments under instruments executed after 1984 and to payments under instruments executed before 1985. The general requirements that apply to payments regardless of when the divorce or separation instrument was executed and the specific requirements that apply to post-1984 instruments (and, in certain cases, some pre-1985 instruments).
Not all payments under a divorce or separation instrument are alimony. Alimony does not include:
Noncash property settlements,
Payments that are your spouse’s part of community income,
Payments to keep up the payer’s property, or
Use of the payer’s property.
Child support is not taxable to the recipient or a deduction for the payer.
Tip 3: Transfer of Property Between Spouses is Tax Free
The Deficit Reduction Act of 1984 sought to alleviate many problems and inconsistencies relating to the transfer and taxability of appreciated property. I.R.C. 1041 governs property transfers between spouses. In general, no gain or loss is recognized on a transfer of property from an individual to a spouse or former spouse. In the case of a former spouse, however, no gain or loss is recognized only when the transfer is incident to a divorce. A transfer of property is incident to a divorce if the transfer (1) occurs within one year after the date on which the marriage is dissolved, or (2) is related to the cessation of the marriage. The temporary regulations provide that transfers related to the cessation of marriage must be pursuant to the divorce or separation instrument (including modifications) and must occur within six years of the date the marriage ends
Tip 4: Negotiate Tax Exemptions for Dependents
Remember to negotiate the tax exemption in the divorce and custody agreement. Many times parents agree to split the exemption and switch every other year. If you do not negotiate the exemption, then the custodial parent or parent with physical custody for more than half the year gets the exemption as long as: the parents are divorced, separated or living apart for at least the final six months of the tax year; both spouses together provided more than half the total support of the child; at least one spouse had custody of the child for more than half the tax year; the spouses have not agreed in writing that the other has the right to claim the dependent exemption and have not filed a written IRS waiver releasing the claim of exemption.
Tip 5: You Could Both Be Head of Household
The IRS rules establish that head of household status follows placement of children and cannot be negotiated or allocated by a court (I.R.C. 2(b) and Treas. Reg. 1.2-2(b)). When there are two or more children, however, and equal placement, parties can arrange for both parents to claim head of household status.
Tip 6: You May be Able to Roll Funds into a Tax Free IRA
A qualified domestic relations order (QDRO) is a judgment, decree, or court order (including an approved property settlement agreement) issued under a state’s domestic relations law that:
Recognizes someone other than a participant as having a right to receive benefits from a qualified retirement plan (such as most pension and profit-sharing plans) or a tax-sheltered annuity,
If you receive an eligible rollover distribution under a QDRO as the plan participant’s spouse or former spouse, you may be able to roll it over tax free into a traditional individual retirement arrangement (IRA) or another qualified retirement plan.
Benefits paid under a QDRO to the plan participant’s spouse or former spouse generally must be included in the spouse’s or former spouse’s income. If the participant contributed to the retirement plan, a prorated share of the participant’s cost (investment in the contract) is used to figure the taxable amount.
The spouse or former spouse can use the special rules for lump-sum distributions if the benefits would have been treated as a lump-sum distribution had the participant received them. For this purpose, consider only the balance to the spouse’s or former spouse’s credit in determining whether the distribution is a total distribution.
Bio: Edward F. Whipps has over 30 years of experience in family law. As a Dublin, Ohio divorce lawyer he has extensive knowledge concerning the complex financial issues surrounding divorce.