Three Divorce Taxation Issues That You Should Know AboutTax Professionals' Resource
October 9, 2012 — 1,479 views
Three Divorce Taxation Issues That You Should Know About
Tax consequences in divorce depend on the decisions the parties make in the process. It is important to consider the tax impact during the divorce settlement in order to avoid one spouse being stuck with a large tax bill and penalties.
Number one concern for divorcing couples is the sale of the primary residence. The proceeds from the sale of the residence may be subject to capital gains tax. According to the law, a spouse can be excluded from this tax if he or she resided in the marital home for any two of the last five years. The exclusion amount is $250,000 for a single taxpayer and $500,000 for a married couple. A divorcing couple may want to consider selling the marital home prior to divorce to take advantage of the higher exclusion.
Some issues may arise when it comes to paying alimony and child support. The payee must report alimony in his or her taxable income, and the payer can deduct the amount on his or her taxes. Child support is not taxable or tax-deductible. Incoming funds are first applied towards child support obligations and then to alimony. Alimony may be more beneficial than child support for both spouses. A spouse with the higher income will get an additional tax deduction, and the recipient's after-tax support amount will also increase. Any additional payments, such as medical insurance or car payments, may qualify as alimony and give an additional deduction for the payer. Property settlement amount can also be paid as a periodic alimony instead of a one-time payment and bring additional tax benefits to both spouses.
Tax filing status creates some confusion for divorcing couples. If the spouses are divorced on or before December 31 of the filing year, they should file as single taxpayers. If they were still married on December 31, lived in the same household and were not legally separated, they must file as married. They can file a joint return or separate returns. A spouse may qualify as Head of Household if he or she was legally separated on December 31, paid more than half for the upkeep of the home for that year and had a child living with him or her in the home for more than half of the year.
When filing their final joint return, divorcing spouses should hire an independent accountant to review their tax documents to avoid any financial or legal problems in the future.