In the midst of separation, you probably have not considered how your divorce may affect your state and federal taxes. Tax implications of divorce can be easily overlooked and forgotten during an otherwise trying time. However, divorce may substantially affect the following tax considerations:
- Filing status (i.e. married filing jointly, married filing separately, head of household, single);
- Tax bracket;
- Tax breaks and certain deductibles may no longer be available, or may be reduced for single filers;
- Ability to claim child tax credits and other related deductions;
Understanding the tax implications of your divorce can help you properly plan and prepare for compliance and changing obligations. To minimize surprises during tax season some key preparations will need to be made. First and foremost, you should consult with a tax professional, whether a CPA or tax attorney, to review your options and make the best decisions for your circumstances. Below are some important considerations to discuss with your tax professional:
Determine your filing status for the year.
Your marital status on December 31st controls your filing status for that year. If you are legally divorced as of the last day of the year your filing status is Single or possibly Head of Household. If you are only separated from your spouse, you may elect to file a joint return with your spouse as Married filing Jointly, or you can file a separate tax return as Married filing Separately. Filing a joint return with your spouse generally provides the greatest overall tax deductions and credits, but also requires a great deal of cooperation and trust. It is also possible that you might receive a higher individual benefit if you file separately from your spouse. It is important to discuss these statuses with your tax professional who can help you understand which status is best for your situation.
Update your W-4 Form with your Employer
It may be necessary to revise your filing status and adjust the amounts being withheld from your paycheck by updating your W-4 form. Your new filing status may change your tax bracket and it is important to ensure your withholdings are appropriate. Your tax responsibility could greatly increase, and without adjustments, you could be faced with a surprisingly large tax obligation when you file your tax returns.
Claiming the Children
Often forgot about until tax season is the issue of who claims the children. If there is not an order or valid agreement addressing who is entitled to claim the child[ren], it is common for parents to wonder who has the right to claim the minor child[ren] as dependents. The IRS guidelines provide that the custodial parent has the authority to claim the children. However, in cases of equal physical custody, it allows the parent who will benefit the most to claim the child[ren]. Non-custodial parents may also claim the minor child[ren] if the parties agree, or if the court orders it. It is important to discuss the child tax credit and the child and dependent care credit with your tax professional and to be aware that these credits begin to phase out at certain income levels.
Alimony and Spousal Maintenance
As of January 1, 2019, federal tax law changed regarding alimony payments. For all valid agreements and court orders finalized prior to January 1, 2019, payers of spousal support continue to receive a tax deduction for alimony payments made, and recipients of alimony are required to report alimony received as income. If your agreement or order for spousal support was entered on or after January 1, 2019, alimony payments paid are not deductible by the payer nor reported as income for the recipient. (Tax treatment of child support payments remain unaltered and are not deductible for the paying party, nor considered income for the receiving party.)
Health Insurance Coverage:
Taxes may also affect your and/or your child[ren]’s eligibility for health insurance under the Affordable Care Act. If you received a health insurance subsidy based on prior income and deductions, it is important to understand how your divorce and change in filing status may affect your coverage. A change in status may mean that you no longer qualify for the subsidy, and you could possibly owe a portion of the subsidy back.
Equitable Distribution and Your Property Settlement
Generally, transfers of property as the result of divorce are non-taxable. However, if assets are liquidated (i.e. the sale of real estate or sale of stock), a taxable event is often triggered. Understanding the tax consequences and liabilities associated with receiving property or consuming liabilities from the marriage is hugely important to your decision making. Be sure to consult your tax professional regarding property transfers during your divorce, especially if the transfers involve the liquidation of property or the receipt of property that generates income.
Regardless of your situation, it is recommended that you seek the guidance and assistance of an experienced divorce attorney as well as a qualified accountant or tax attorney. Accountants and tax attorneys have a thorough understanding of how divorce driven change will impact your tax obligation. Together, your tax professional and divorce attorney can help you develop a comprehensive plan to minimize your tax liability and keep surprises at bay.
The family law attorneys at Tharrington Smith are not tax professionals. Over decades of experience, our team has accumulated a vast network of reliable professionals to provide the best support available relative to the implications of divorce on your tax decision-making. Though this divorce-related tax information is general in nature and not intended to be legal or tax advice, we provide our clients with appropriate professional support geared to their unique needs and situations.
If you have questions or concerns about any element of your divorce, contact the Family Law Section at Tharrington Smith. Call (919) 821-4711 for your consultation.