Among all of the factors that you consider during your divorce or separation, federal tax issues are probably far down on your list of priorities. However, divorce can significantly affect your tax return, and its implications should be seriously weighed when negotiating your divorce decree.
Keep the following points in mind to avoid common tax pitfalls after divorce:
Child Support And Alimony
According to the IRS, child support payments are neither tax deductible for the payer nor treated as taxable income for the recipient.
However, unlike child support, alimony payments are tax deductible for the person making the payments and treated as taxable income for the person receiving it (as long as the alimony payments are due to an official separation or divorce decree).
If you are receiving alimony, you should note that taxes are not withheld from alimony payments. To avoid any penalties, you might want to consider increasing the amount of taxes withheld from your wages or make additional estimated tax payments throughout the year.
Division Of Assets
When divorcing spouses transfer assets between themselves as part of a divorce settlement, the IRS generally does not treat the exchange as taxable. However, there are exceptions for assets such as stocks, mutual funds and bonds, which are subject to capital gains taxes.
The spouse receiving such assets will be subject to capital gains taxes based on the difference in value between the original price (when the formers spouses jointly purchased the asset) and the price at the time of sale. On the other hand, the spouse transferring the asset will not be taxed on any payment received.
The Marital Home
The sale of the marital home may also be subject to capital gains taxes. However, if the profits from the sale are reinvested within two years, capital gains can typically be avoided-but only if the home is considered your primary residence. This means that spouses who were prevented from living in the home during divorce proceedings or after a divorce decree will lose the ability to avoid paying capital gains.
Retirement accounts are generally considered martial property when determining a divorce settlement. However, distributions of retirement funds in accordance with a divorce decree are subject to the same tax laws as any other retirement fund distribution, so it is important to understand the applicable tax laws for your account.
A court order known as a Qualified Domestic Relations Order (QDRO) can be obtained to direct future distributions from a retirement account in accordance with the law.
To learn more about the tax implications of divorce, consider talking with an attorney skilled in this area of law.