Divorces often have significant financial implications for all parties. Moving from two incomes to one, dividing up retirement accounts and pensions, and deciding to sell the marital residence can all make a huge impact on a party’s finances. But one issue that often gets overlooked during the process is the impact that divorce and division of property can have on taxes.
One of the biggest changes to divorce cases in Texas in the last few years is the consequence that the Tax Cuts and Jobs Act passed in 2017 has on spousal support. Under this new law, any taxpayer who gets divorced after December 31, 2018, will not be able to deduct these payments from their taxable income, as they had been able to do before. Individuals who receive spousal payments will not be taxed on this income. This will only apply to individuals who finalize their divorce after December 31, 2018. This is a serious consideration for anyone who plans on using contractual alimony as an inducement to settle their divorce case.
Do many individuals also have questions on how they should file their taxes during the divorce – separate, joint, or head of household? It can make sense to file jointly for as long as possible, as married couples get larger standard deductions. If you are still married on the last day of the year, then you will be permitted to file jointly. If you are divorced on the last day of the year, you should file as single or head of household. If you choose to file as head of household, you must have been living apart from your spouse for the last six months, and you paid more than half the household costs for at least half the year. You will be able to claim an exemption for qualifying dependents.
If you decide that you are able to file jointly and that it is the best strategy for you and your spouse, you need to ensure that your taxes have been checked by an independent professional advisor to avoid any unpleasant surprises. For example, if your spouse attempts to hide income and the IRS finds out, they will be able to come after both filers to recover this money. There is an exception to this rule – you can assert that you were innocent and did not know that your spouse was engaged in tax evasion. To be successful under the Innocent Spouse Rule, you must demonstrate that you had no knowledge of the misrepresentation and no reason to know about it, that your spouse misrepresented information on your joint tax return and you did not benefit from the misrepresentation.
How property is awarded in a divorce can have significant tax consequences for both parties. For example, if you accept a lump sum payment from a retirement account, you can be penalized for early withdrawal and taxed on this larger sum. On the contrary, receiving a retirement account after reaching retirement age usually incurs a lower tax rate. In some circumstances, a party can sell a home and buy a new one within a certain period of time and avoid paying capital gains tax.
If you have time, it is always a good idea to set up an appointment with an accountant and get some general tax advice when it comes to getting a divorce. They can help you understand the biggest consequences, and also may be able to help you plan for the financial impact in advance. Consulting with an expert before taking action is always a prudent strategy.
Disclaimer: this article aims to only provide only general advice so you should always consult with an accountant or tax professional to ensure you are filing in accordance with the latest IRS rules.