Divorce and Taxes

Donna Ryan, Tax Principal
March 2016

Ah… such cheery topics! Please know, though, that significant tax planning opportunities can exist in the structure of a divorce. Our experience is that couples who do not consider tax implications when drafting the documents often find out later that a different approach might have saved taxes. A few examples:

  • The higher-earning parent may insist on being able to take exemptions for dependent children. That seems like a good idea, but remember that at certain income levels all tax benefits from exemptions can be lost. This applies to the deduction for exemptions, but also child credits for children under age 17, and education credits.
  • Alimony seems a very distasteful idea to many… until you consider this: Alimony is deductible; child support is not.

Here are some key issues to consider:

  • Timing and filing status: How will a divorce in 2016 vs. 2017 affect each party? Who will get the benefit of any tax loss carryforwards? If head of household filing status will be helpful to either party, address with whom children will live.
  • Children as exemptions: Who can obtain a tax benefit? Consider all deductions and credits. Don’t forget about alternative minimum tax considerations.
  • Division of marital assets, including:
    • Cost basis information,
    • Proper transfer and division of retirement assets,
    • Will the family home be sold at a gain? Determine if you’ll be able to qualify for the capital gain exclusion on sale of the principal residence.

The details of these and other highly technical rules are beyond the scope of this article, but those of us who are familiar with these matters can at times offer unique and creative solutions.

    Consider the case of H, who was divorcing his spouse of 20 years, and whose primary asset was a large position in a single publicly-traded company for which H had virtually no cost basis. While W (the soon-to-be ex-wife) was entitled to alimony, this couple agreed that H would create a charitable remainder trust, funding it with a portion of his stock, for W’s benefit shortly before the divorce was final. This resulted in an income stream to W for life, a charitable deduction for H, and the ability to diversify the holdings at no immediate tax cost. Better yet, this was an alimony replacement technique (meaning they did not have to continue regular communication about alimony logistics) and there was no gift tax consequence.

For optimum tax savings in a divorce agreement, the particulars of each situation can guide an approach to the key issues described above. Couples can generally agree that taking advantage of tax savings that might otherwise be lost is a win-win solution.

Please contact Jean McDevitt or Donna Ryan if we can be of assistance in this area.

Disclaimer of Liability: This publication is intended to provide general information to our clients and friends. It does not constitute accounting, tax, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.