Addressing Your Divorce Tax Questions
Word association… ready go! Bowie. The Stones. That inept, yet undeniably charming, smoosh from ‘My Father, the hero’. If you guessed rock stars and a random pseudo-celebrity that are considered tax exiles, you can now have the honor of advertising yourself as an amazing addition to any BW-3s trivia team. You’re welcome. And since we are on the topic of taxes, it is the perfect time to highlight tax considerations ancillary to the division of marital property following divorce. Weak segue, I know, but cut me some slack we can’t all be consummate literary geniuses 24/7. Sheesh.
Bottom Line: If you are contemplating a trip to Splitsville, you should have divorce tax questions.
Generally, no gain or loss is recognized on a transfer of property from a spouse to a spouse or former spouse but only if the transfer is incident to divorce. This usually applies to the division of marital property, ie retirement accounts or that RV that has been taking up space in the driveway since you bought it with the intent to tour the country’s national parks before the thought of being in a small space with your ex didn’t sound worse than water boarding. Further, this rule applies even if the transfer was in exchange for cash, the release of marital rights, the assumption of liabilities or other consideration and if the transfer is in trust or for the benefit of your former sweetheart. Like anything else in life, it’s important to pay close attention to the fine print. The rule does not apply when you spouse or former spouse is a nonresident alien (get that mail order bride naturalized stat); to certain transfers in trust; and to certain stock redemptions under a divorce or separation instrument or a valid written agreement that are taxable under applicable tax law.
News Flash: The Answers to Your Divorce Tax Questions Are Complex
If nothing else makes you want to leave your ex faster than the departure of a sorority girl from a bar after a Big Ben sighting, pay close attention. A property transfer is incident to divorce if the division of marital property or other division occurs within 1 year after the date the marriage ends, or is related to the ending of the marriage. If the latter, the transfer must be made under an original or modified divorce or separation agreement and has to occur within 6 years after the date the marriage ends. If the division of marital property or other property is transferred to a third party on behalf of the spouse (or former spouse) the transfer is treated as two transfers. The first being a transfer of the property between spouses or former spouses followed by an immediate transfer of the property from a spouse/former spouse to the third party. A gain or loss not recognized on first transfer, however, you may have to recognize a gain or loss on the second. To effectuate this, the transfer from spouse to the the party must be required by the divorce order or separation agreement or; requested in writing by spouse/former spouse or; consented to in writing by the spouse/former spouse. The consent must state both spouses/former spouses intend the transfer to be treated as a transfer from one spouse to another subject to the rules of IRC section 1041 and it must be obtained before filing the tax return for the year the property was transferred. It is also important to note that gains and losses must be recognized if, incident to divorce, the transfer is an installment obligation in trust for the benefit of the former spouse.
Divorce Tax Planning Is Imperative
The property received from a spouse/former spouse is treated as acquired by gift for income tax purposes and its value is not taxable. However, if jointly owned property is sold, a spouses share of the recognized gain or loss of the sale must be reported. If the marital home is sold, the seller may be able to exclude up to 250k (500k if filing jointly) of gain on the sale. Bottom line: it’s imperative to have a divorce attorney well versed in the area of tax considerations in your corner so that you are able to take advantage of these breaks and keep things on the up and up. If someone as bad ass as Blade or as unassuming as Martha Stewart can get locked up for tax evasion, you best believe it can happen to you as well. That said, play it safe and meet with a family lawyer who can address your divorce tax questions. Even though your ex may not be calling you sweet cheeks anymore, you certainly don’t want this dude to be referring to you by that moniker either.