Eric Wisco is a Certified Public Accountant and sole practitioner at Eric A. Wisco, C.P.A., P.A., in Greensboro, NC. He provides professional services to a variety of closely-held businesses with a concentration on management advisory services and litigation support to attorneys serving the construction industry.
He is co-author ofConstruction Claims – Accounting and Litigation Support Services – usedby theAmerican Institute of Certified Public Accountants (AICPA) for continuing education courses and has served as an instructor of AICPA Construction Courses at various locations across the nation. Eric can be reached at firstname.lastname@example.org.
AZ asks: How do you deal with the tax aspects of divorce?
It is very important that you bring together a team consisting of an attorney, financial advisor and tax advisor who are familiar with the specific laws and rules peculiar to divorce. The discussion related to the following topics are not intended to be a literal explanation of the tax laws, but to highlight some issues that need to addressed.
AZ asks: How do you determine what your filing status is?
Filing Status is determined as of December 31 of the tax year. There can be a huge impact on both taxable income and related income tax, depending upon the taxpayers filing status. Tax rules determine which filing status(s) a taxpayer qualifies for, but the taxpayer can choose to file their return using the filing status for which they qualify and results in the lowest tax.
In addition, the taxpayer needs to be aware of special rules that apply to the filing status chosen. For example, if taxpayers choose to file their returns as Married filing Separate, within three years they can re-file that tax year with their spouse as Married filing Joint, the reverse is not true. Once you file a tax return as Married filing Joint, you cannot change that.
Another filing status for which a taxpayer may qualify is Head of Household. Taxpayers also need to be aware of their state’s rules which might differ from the Federal Income Tax rules about the filing status chosen and conformity with the filing status chose on the Federal Return. A related issue is the dependency exemptions for children.
AZ asks: What is considered taxable income?
Normally child support is not deductible by the person making the payment and not taxed by the person receiving the payment. Alimony is generally deductible by the payer and is taxable to the person receiving the payment. It is very important that the legal agreements between divorcing parties consider the tax implications of these matters. There has been substantial litigation over these issues and there are specific rules and conditions that enter into how the IRS classifies payments between the divorced or “divorcing” parties. Again, state rules may differ from Federal.
A related issue that can arise between the parties is about who is entitled to the home mortgage deduction and whether payments of the mortgage are considered alimony or child support. Again, the rules are complex and in part depend on local law, court ordered rules and characterization in the divorce decree or separation agreement. Similar issues can arise concerning Health Insurance Premiums and medical expense payments.
AZ asks: How are tax payments normally handled?
Generally each taxpayer is required to pay their income taxes due for each year either through wage withholding or by making quarterly estimated tax payments. Special rules apply that determine the amount of tax that must be paid. Generally the amount of tax required to be paid is based on either the current year income and tax rates or prior year tax. Special rules apply depending on your filing status in both the current and prior year. Also, as to which spouse will be entitled to joint payments, refunds and credits and whether they can be partially applied to each taxpayer’s liability. Again, state rules may differ from Federal and the IRS regulations need to be reviewed in making these determinations, as well as any agreements between the parties.
AZ asks: Are there other tax aspects that need to be considered?
Some other tax aspects to be considered are the rules related to retirement accounts including IRA’s, and the tax basis of marital assets divided amongst the parties. Again special rules apply and some of these can result in significant tax advantages and disadvantages depending upon the tax laws and the manner in which they apply to how the parties split their assets.