Tax Planning Tips For Divorcing Couples

When facing a divorce, many people do not consider long-term tax planning. Unfortunately, tax planning isn’t something people tend to think about until they’re already in trouble—and then it’s too late. The consequences of failing to plan can be devastating: not only will you have to pay back taxes you should’ve paid in the first place, but also you could end up paying penalties and interest on top of that.

One of the biggest challenges to a divorce in California is dealing with the state’s tax laws. There are some tax breaks for divorcing couples; however, if you don’t plan, you could end up paying more than you need to. 

Divorces are multi-step processes—they don’t happen all in one day. Fortunately, they can be very simple if you and your spouse are willing to work together. 

But that’s not always the case.

If both partners have difficulty communicating, the separation will take much longer and much more effort to reach finalization. 

Not to worry; keep reading to learn more about how this seemingly impossible situation can be made possible, even when considering the tax consequences of a divorce. 

Property Division and Tax Planning

During the process, the spouses must be able to mitigate all hard feelings to complete all essential steps, such as property division and taxes. In California, dividing assets is often a 50/50 deal, but some couples may have more difficulty agreeing.

Any property acquired after the marriage is considered marital property, or owned by both spouses. However, property owned by one spouse before the marriage or any inheritances/gifts they receive from the family is considered separate property and is not obtainable.

If a spouse doesn’t want to split “their” property or earned income 50/50, then they might go down a different, more illegal road to escape a fair split. In this case, they could give loans to friends or family, transfer funds, conceal assets in offshore accounts, and/or cheat on their taxes.

It’s more common than you think, but there is usually nothing to worry about unless you’ve suspected your partner of committing suspicious acts before. 

Nonetheless, preparing your taxes and preparing them right can make or break the smoothness of the process. 

It’s going to take time to plan, but we’ve made it easier by compiling a list of tax issues to look out for:

• Your filing status
• Timing your divorce
• Tax credits
• Taxes affecting alimony payments
• Transferring property
• Tax carryovers
• Retirement plans

When you’re married or going through a separation, you don’t automatically have to file a joint married tax return. While that status may be more beneficial for some couples, married people filing separately is another option that could be useful for others. 

Joint tax returns may lower your taxes, but it makes you both responsible for those reports; i.e., your tax liability combines as one. While this might not be a concern for all, a couple planning a divorce will often desire a separation of liability to refrain from taking on each other’s debt, interest, and any errors.

Head of the household is another option, but usually only after the divorce is completed and a dependent is claimed.

If your potential filing status can result in higher taxes for the upcoming year, it may be wise to hold off on your divorce. Waiting until after the tax year is over (after December 31st) will allow you to file a joint return once more. 

If you’re both on good terms, this may be a great way to help each other out if one spouse earns a lot more income.

Only one spouse can claim a dependent which includes the child tax credit. Usually, the parent who physically has the child most of the year is entitled to the credit, but not always. 

For divorces finalized after December 31st, 2018, alimony payments become non-deductible on tax returns, just like child support. If you file before this date, then you can still claim the deduction or be taxed for it.

Property transfers are not taxable; however, if labeled as a true sale after the divorce, the purchasing spouse can benefit from the increased cost.

Tax carryovers, such as capital losses and charitable deductions, have value and should also be discussed in negotiation.

You’ll need a QDRO, or a qualified domestic relations order, to split a retirement plan. It will allow you to split all or some of the benefits with the other spouse and place them in an existing or new plan.

It’s essential to consider the tax consequences during a divorce; taking advantage of your spouse or vice versa can mess up more than just your taxes. To keep it easy for everyone, bring your past returns and other financial documents and file any forgotten returns.

What’s Next

When preparing for divorce, it’s essential to stay organized and patient. While it may be tedious, the more you pay attention to the necessary documents and details, the fewer annoyances you’ll have later on. 

Likewise, taxes can be just as complex, if not more. How you prepare and do your taxes can affect your divorce process.

To avoid any interruptions in your settlement, reaching out to an expert can be an effective source of hope for avoiding any interruptions in your settlement. Here at Miod and Company, we want to help! Call or email us today and find out how we can best support you during your divorce case