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Tax considerations during the divorce process

We haven’t discussed the effect of divorce or separation on your taxes since last summer. In our June 1 post last year, we discussed the increase in IRS scrutiny on alimony (also called spousal support) payments. The reported gap between deductions claimed by payers and income reported by recipients had surpassed $2 billion in 2010.

In this post, we would like to discuss the broader impact a divorce or separation will have on your taxes. The regular disclaimer applies: consult a tax attorney, if you have more detailed questions or the IRS audits your last tax year filing jointly or your first year filing separately.

First, it is important to differentiate between child support and spousal support. Child support has a neutral effect – the amount received is not taxable, and payments cannot be deducted.

In contrast, spousal support/alimony is taxable in the year received. There are no withholdings, so a former spouse receiving spousal support may need to make estimated tax payments or increase withholdings from employment to avoid tax penalties. The spouse paying spousal support/alimony by decree or agreement may deduct the amount paid.

Generally, transfers as part of a property division are not taxable. It is thus vital to carefully label any transfer of assets in a marital settlement agreement or divorce decree. Mistakenly referring to a payment meant to equalize equity in a home as lump sum in lieu of spousal support or alimony could result in an unexpected large tax bill.

Health Care Law

Second, federal law requires that you have health coverage each month during the year. Any gap in coverage could result in a penalty.

Resolve issues of health insurance coverage during the divorce process. Losing coverage through divorce is a qualifying event that will allow you to enroll in the Health Insurance Marketplace. Enrollment in the same health plan year during the year of a divorce or separation will require you to allocate policy amounts between each spouse to determine premium tax credits and reconcile any advance payments.

Lastly, if you change your name make sure to notify the Social Security Administration. A mismatch between the name on your tax return and SSA record can delay a refund.

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