Questions on Divorce and Taxes
Many of the financial decisions made by couples going through divorce have tax implications. And while I am not a tax specialist and do not calculate the taxes that may be due following my divorcing clients’ decisions, I always alert them that taxes may be due so they can discuss those points with a tax professional.
Since we are now about one month away from April 15, I chose to list here 10 of the most frequently encountered tax questions during the divorce process:
1. Child Support
- The amount paid for child support is not tax deductible to the payor.
- The amount of child support received is not taxable to the payee.
2. Spousal Support/Maintenance
- The amount paid for spousal support is tax deductible to the payor.
- The amount received for spousal support is taxable as income for the payee.
3. Transferring Money from 401(k)s and Some Other Retirement Accounts
Pursuant to a divorce order, no penalty or taxes will be due when transferring money from one spouse’s retirement account to the other. However, each person will have to pay their own taxes once they start withdrawing funds from their retirement accounts. Depending on what type of retirement account you have, you need to find out what the requirements may be needed to effectuate such transfers. QDROs or other formulas may be applicable.
4. Selling a Home
If a couple sells a home which is their primary residence, they are each entitled to an exclusion of $250,000 on which they do not have to pay capital gains tax. So, for a couple, the first $500,000 of profit above the cost of the home and capital improvements will not be taxable.
If the parties are no longer living together when the home is to be sold, one will need to find out if these exclusions still apply.
5. Lump Sum Settlement
A lump sum settlement between spouses pursuant to a divorce is not taxable.
6. Sharing Profits on a Business with a Spouse Post Divorce
Taxes will need to be paid on the profits of a business. So, while you may agree that one person will receive proceeds from the spouse’s business, the parties need to agree on whether the proceeds will be distributed after all taxes have been paid or if each person will pay the taxes on the money they receive.
7. Dividing Art Works or Other Valuable Collectibles
At the time of the distribution, no taxes are due, but if and when either party decides to sell one of those items, they will need to pay tax on the gains. It is advisable to have the original invoices or information on the original cost of these items in order to calculate the amount of tax due on the profit.
8. Dividing Up Stocks
Spouses can divide up stock accounts and will have no taxes to pay as long as they keep the same stocks. When a person decides to sell some of their stocks, capital gains tax may be due at that time.
9. Who Takes the Tax Exemptions for the Children?
Parents may have options as to who will take the exemption on their tax returns after the divorce or whether they will alternate years. Check with your tax advisor as to what may be more beneficial for your family.
10. Joint Tax Liability for Taxes Due to the IRS
A divorce will not forgive any taxes due from either party before the marriage. Make sure to agree with your spouse as to who and how these liabilities will be paid off.
This list is not complete and only reflects some of the most frequently asked questions. It is important that you check with your tax professional for any other questions you may have.
Please also be advised that, over time, any one of these points and their tax consequences may vary as the laws and the taxation system may change.