Tag Archive for: Divorce and Taxes

Am I divorced or married this tax year? What is my tax filing status in year of divorce?

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You are considered divorced if you took status as a single individual before December 31st of a given tax year .  You determine your tax filing status based on your marital status on the last day of the tax year, which is December 31 for most individuals.  Sometimes it actually makes sense to postpone your date of status until January 1st of the following year if it saves tax dollars.  You must agree with your former spouse to postpone the date of status and file married jointly but it may be worth it to both of you to reduce your tax bill during the period to offset legal fees from the divorce. It pays to be negotiable on tax issues. Wellspring Divorce Advisors can help you work with your spouse to determine the most advantageous filing status for your family in the year of your divorce.

We are posting lots of tax related items to the blog in honor of our upcoming speaking engagement at the California Society of Certified Public Accountants Annual Tax and Accounting Institute in San Diego November 18th. We are honored and looking forward to speaking to hundreds of CPA’s from across Southern California and giving them an overview of the many traps and opportunities inherent in the tax code during divorces.

Can I deduct legal fees for divorce?

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Maybe. It depends on the reason you incurred the fees.  You cannot deduct the basic legal fees for divorce or court filing costs.  However, you can deduct any fees including legal fees that were paid for tax advice related to the divorce or to help you get taxable alimony or spousal support. These legal fees for divorce are allowable only to the extent that their total in any one year exceeds two percent of adjusted gross income. Wellspring Divorce Advisors fees may also qualify under these rules. You should ask your attorney to generate detailed billing showing the portion of the bill related to deductible items.

Check out this article from Divorce Taxation expert Julian Block for more details.

Consult your tax preparer before taking any actions that may have tax consequences.

 

Defense of Marriage Act Ruled Unconstitutional – Same-Sex Marriage Legal in California

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The Supreme Court has found the Federal Defense of Marriage Act (DOMA) to be unconstitutional in all states where the state allows same-sex marriage. Same-sex couples now have equal rights to those of opposite-sex marriages including

  1. File joint tax returns as their marriage is not recognized for this purpose. This may result in larger tax bills for same sex couples compared to a marriage of a man and woman which enjoys the right to file Married Jointly. Under DOMA same-sex couples did not have the option.
  2. Take advantage of unlimited asset transfers between spouses. Section 1041 of the internal revenue code allows married couples to transfer an unlimited amount of assets back and forth during marriage and as part of a marital dissolution proceeding. A same sex couple did not have the same rights under DOMA and instead was often required to make other plans for tax efficiently passing assets via complicated and costly estate planning and trusts. Property settlements upon the dissolution of an opposite-sex marriage would not trigger income taxes. However, under DOMA a property settlement in the divorce of same-sex couples resulted in appreciated assets being deemed to have been sold for the value of the obligation being extinguished (the property settlement). This could trigger a gain or loss for tax purposes and have possible tax implications.
  3. Collect Social Security benefits on their spouses record. Under DOMA Same sex couples did not have the right to spousal or survivor benefits under the Social Security system. This kept a same sex couple from adopting a family model with a stay at home parent and had major negative consequences if a major bread-winner passes away.
  4. Have a spouse covered under an employer provided benefit program such as medical insurance. Under DOMA a same-sex couple was not afforded the same rights to cover their spouse on employer provided medical and other benefits.  The resulting accommodation had become some corporations adopting eligibility requirements allowing a same sex couple to have coverage but DOMA made the benefit a taxable income to the employee when a man and woman couple would avoid such taxation.
  5. Deduct alimony payments to their spouse on a tax return. Under DOMA alimony payable from a member of a same sex couple to their spouse is not tax deductible as it would be when payments are made between a man and woman couple. This arrangement generally had the effect of transferring income between ex-spouses tax efficiently by reducing income of the taxpayer in the higher marginal tax bracket and transferring it to the ex-spouse in the lower marginal tax bracket. Under DOMA alimony payments from same-sex divorces are not deductible for federal income tax purposes and may in fact be considered a gift, further reducing the lifetime limit or even triggering taxable gifts.

The Supreme Court has found the Proposition 8 supporters in California lack standing for appealing the voter decision making same-sex marriage legal in California and remanded the case to a lower court. Ultimately this means same-sex marriage in California will resume.

The combination of Defense of Marriage Act strike down and Proposition 8 decision means same-sex couples in California will have the same rights under the law as their opposite-sex counterparts.

 

Divorce Financial Planning: Concentrated Stock Holdings During Divorce

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financial planning, CDFA

Your Investments

We have many clients with significant wealth tied up in the stock of their employers. During Divorce Financial Planning it may become necessary to create liquidity to pay fees, facilitate an equalization payment or create diversification where there previously was none.

These stock holdings are through vehicles such as Employee Stock Purchase Plans, Stock Options and Restricted Stock. They may be vested, unvested or co-mingled, meaning they have different liquidity constraints. Each vehicle also has a different tax consequence at sale. Here is a quick review of some Divorce Financial Planning considerations to consider when seeking liquidity and diversification during during divorce proceedings.

Stock Holdings

For stock held outright we look at tax basis for guidance in our divorce financial planning. Shares with a low tax basis can be sold today to lock in tax rates and later repurchased if the client wishes to continue to hold the stock.

Restricted Stock

Restricted stock generally releases or distributes into a common brokerage account at vesting so it would be treated as normal stock holdings with divorce financial planning decisions based upon review of tax basis. The tax basis is based upon the stock price on the day of vesting and distribution.

Employee Stock Purchase Plans

Stock held in an Employee Stock Purchase plan has a complicated tax picture. The discount, typically 15%, given to the employee on the initial purchase price is taxed at ordinary income tax rates. The difference between the fair market value at purchase and the fair market value at sale is taxable at capital gains rates. ESPP assets often have low tax basis because employees buy and hold the stock  so this may be the first place to look for harvesting gains and resetting basis during your divorce financial planning.

Stock Options

Non-Qualified stock options carry a more complicated set of tax implications and divorce financial planning considerations. Options are taxed as ordinary income for the difference between the strike price and the price at exercise. Options can be exercised today in a same day exercise and sale transaction to lock in tax rates. If you wished to hold the stock you could still exercise the options and lock in the ordinary income tax rates for 2012 but you would have to come up with cash from another source to fund the option exercise. Stock options also become a complicated logistics issue post divorce as the non-employee spouse may not be able to hold the options. For this reason alone it is worth considering liquidation during your divorce financial planning.

Wellspring Divorce Advisors builds long term distribution schedules and detailed analysis of current versus future values including opportunity cost and present value of money to help clients decide how to manage concentrated stock positions during and immediately after divorce proceedings.

 

wellspring divorce advisors

Wellspring Divorce Advisors helps individuals and couples address the financial aspects of divorce in a civilized, equitable, and efficient manner by providing expert divorce financial planning and advice.

Contact us to find out how we can help you through this process.

 

 

 

 

 

 

Post-Election Income Tax Planning for Divorce and Beyond

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We now have a bit more clarity about the future income tax landscape in the United States and the State of California specifically.

Here is what I know.

In 2013 the 0.9% Medicare surtax kicks in on taxable income over $200K for single filers and $250K for married filers.

In 2013 the 3.9% Medicare tax on unearned income such as dividends, interest and capital gains kicks in for single filers with taxable income over $200K for single filers and $250K for married filers.

President Obama wants the top rate on capital gains to rise to 20% for single filers with taxable income over $200K for single filers and $250K for married filers. He also wants the top tax rate to go higher from it’s current 35%.

What does this mean to you? It may be a good idea to sell appreciated assets in 2012. Taking gains in these assets in 2012 could save you the 0.9% Medicare surtax, the 3.9% Medicare tax on unearned income and 5% or more from the increase in capital gains tax rates.

For divorcing parties this might mean selling some appreciated assets such as stock positions or real estate in order to lock in the 15% capital gains rate and avoid the 3.9% additional Medicare tax rather than retaining them post divorce. It might mean exercising non-qualified stock options in 2012 to lock in the maximum 35% income tax bracket and avoid the additional 0.9% Medicare surtax.

California passed Proposition 30. Proposition 30 raises taxes on EVERYONE.

  • The income tax increases are RETROACTIVE to January 1st 2012
  • Sales tax rates  are increased by 3.45%
  • Three new high-income tax brackets are created raising rates from 9.3% to 10.3% for taxable income over $250K but below $300K (10.6% increase), from 9.3% to 11.3% for taxable income over $300K but below $500K (21.5% increase), from 9.3% to 12.3% for taxable income over $500K but below $1,000,000 (32.26% increase), and from 10.3% to 13.3% on taxable income over $1,000,000 (29.13% increase).

There is nothing to do about Proposition 30 at this point since the changes are all RETROACTIVE. It has amazed me how many people did not realize the measure was retroactive.