Tax Impact of the DOMA Ruling
(A Mixed Blessing for Married Same-Sex Couples)
On June 26, 2013 the U.S. Supreme Court declared unconstitutional Section 3 of the federal Defense of Marriage Act (DOMA). Section 3 defined “marriage” and “spouse” in a manner under federal law that prevented same-sex married couples from being recognized as married for a variety of purposes, including tax filing status and benefits.
The Court’s ruling effectively extends federal benefits to same-sex couples who are legally married. A couple’s ability to marry, however, is sanctioned under state law. Currently only thirteen states recognize same-sex marriage: California, Connecticut, Delaware, Iowa, Maine, Maryland, Massachusetts, Minnesota, New Hampshire, New York, Rhode Island, Vermont, and Washington. Although not entirely clear, it is unlikely that couples in civil unions or those registered as domestic partners will have the same rights as married couples. Ultimately, that determination may be a matter of specific rights granted under each state’s law. Furthermore, Section 2 of DOMA remains in effect, which allows states to choose whether to recognize marriages performed in other states.
In part due to that disconnect between state and federal laws concerning marriage, the ruling raises a host of additional questions. What happens at the federal level if a same-sex couple marries and resides in a state allowing same-sex marriage and subsequently moves to a state that does not? What if a couple visits a state only to get married—never residing there—and returns to their state of residence that does not allow the marriage? Presumably, some directive will come from the federal government regarding such ambiguities.
With respect to tax law, a number of questions surface. The statute of limitations for amending tax returns generally is three years from the date originally filed. The Court’s ruling clearly allows same-sex couples to file amended returns for all open years. Will same-sex married couples be allowed to amend tax returns for closed tax years? Will same-sex married couples be required to amend past-year returns regardless of whether the amendment yields a tax refund or a tax liability? Most likely such a requirement would be considered an undue hardship for taxpayers and overly burdensome for the IRS; however, it is a reasonable concern.
As alluded to above, for income tax purposes marriage can be an economic detriment. A legally married couple generally must file either as married filing a joint return or married filing separate returns. Using either status, their combined higher income may result in the so-called “marriage penalty.” The marriage penalty effectively requires a married couple to pay a higher effective tax rate than if the two individuals were able to file using single tax filing statuses. There potentially are more tax dollars at stake for a married couple with respect to the Obamacare Medicare surtax as well. Similarly, there are limitations on the personal exemptions and itemized deductions of certain high income taxpayers – the PEP and PEASE limitations – that impact married taxpayers at lower income levels than single taxpayers.
Nonetheless, there are very clear benefits for same-sex married couples in other areas of tax law. In particular, the availability of the unlimited federal estate and gift tax marital deduction is a major advantage. Same-sex married couples will be able to avail themselves of the Internal Revenue Code sections that allow property to pass from one spouse to another free of federal wealth transfer taxes. In addition, such couples are now able to take advantage of portability of estate tax exemption and spousal gift-splitting.
Other benefits include the available election of a spousal rollover for a qualified retirement account, the ability to optimize Social Security benefits and qualify for survivor benefits, access to spousal healthcare insurance and exclusion of those benefits from income, and the ability to make contributions to an IRA or Roth IRA of a nonworking spouse.
From a practical standpoint, couples should work with their advisors to review existing estate plans and life insurance and retirement plan beneficiary designations. If gift or estate tax returns have been filed or should have been filed, it would be prudent to contact advisors to determine the options available. With respect to income tax returns, amended returns should be considered for tax years 2012, 2011, 2010 and possibly 2009, assuming the statute of limitations is still open. (The statute generally is open for 3 years, which could include 2009 returns if extensions were filed.). Protective claims should be considered for returns that involve one or more of the unresolved issues raised by the Court’s ruling. Taxpayers who filed protective refund claims prior to the decision should be on alert for communications from the IRS regarding their refund claim.
The court’s partial repeal of the Defense of Marriage Act was a significant one that extends many tax planning and filing opportunities to married same-sex couples. Effected taxpayers should consider whether action is needed to avail themselves of these benefits, especially for earlier years, where the potential for amended returns may slip away soon. However, the ruling leaves many questions unanswered, and we will update our readers as these issues unfold.
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