Archive for the ‘Divorce’ Category

Ask Your Husband if He is Still Married to Someone Else!

Originally published in the Cedar Street Times

December 14, 2012

As professionals dealing with trust and estate issues, CPAs and attorneys talk a lot about making sure your beneficiary designations are up-to-date on any kind of retirement assets you may own, as they generally trump your estate plan.  There are many sad stories of widows or widowers losing assets to their deceased spouse’s ex-wife or ex-husband simply because they did not update the beneficiary designation forms.  But sometimes, even that is not enough.

At a tax seminar I attended last week, we discussed an interesting court case which makes you think you can never be too careful.  The case goes something like this: Wayne and Cleta Lee were married in the state of Washington in 1979.  In the early 1990s, Wayne moved to Mississippi.  They never got a divorce, but they went their separate ways.  In 1995, Wayne decided to marry a woman in Mississippi named Lois, but he did not bother to divorce Cleta.

Wayne was an electrical worker and was entitled to a pension when he retired in 1997.  On the pension application he listed himself as married and Lois as his wife.  He designated her specifically as the beneficiary and even attached a copy of the marriage certificate.  They both signed the application and he started receiving his pension.   In January 2007 Wayne passed away and Lois started receiving pension benefits in February.  Later that month, his first wife from Washington applied for pension benefits from the company as well!

The case eventually went to court and the district court ruled in favor of Lois since she was specifically identified in the pension application as the beneficiary for spousal benefits.  Cleta appealed and the case went to the U.S. Court of Appeals.  The U.S. Court of Appeals cited Employee Retirement Income Security Act (ERISA) rules and state laws and said the district court made its decision on the wrong basis.  They overturned the ruling and have now sent it back to the district court to determine the legal spouse.  They said the benefits go to the legal spouse at the time of his passing regardless of who was specifically named as the spouse.  If the district court determines Cleta to be the legal spouse, which the U.S. Court of Appeals hinted at quite heavily, Lois will lose out on her pension benefits.  (IBEW Pacific Coast Pension Fund v. Lee (2012) U.S. Court of Appeals for the Sixth Circuit, Case No. 10-6433)

So for all of you with spouses that have multiple wives or husbands, you may want to have a little chat!  Obviously the scary situation would be if you never knew your spouse was not officially divorced from a prior marriage, or worse, never knew they were married before.

Does this mean we will be advising clients in the future to have background checks done before picking out a ring?  I sure hope not.

Prior articles are republished on my website at www.tlongcpa.com/blog.

IRS Circular 230 Notice: To the extent this article concerns tax matters, it is not intended to be used and cannot be used by a taxpayer for the purpose of avoiding penalties that may be imposed by law.

Travis H. Long, CPA is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.

Divorce Taxation – Part IV

Originally published in the Pacific Grove Hometown Bulletin

July 18, 2012

Asset Transfers

Splitting up assets in a divorce can create some interesting situations where special tax laws apply.  For instance, any assets transferred between spouses within one year of a divorce are considered transferred incident to divorce and are tax-free transfers.  In such a situation, no gain or loss is recognized, and the adjusted basis transfers from one spouse to another just like a gift, even if the property transfer was not stipulated by the divorce decree.

Some strange outcomes can occur from this law.  Theoretically, you could have a situation where spouse A has $20,000 worth of stock certificates that were bought for $5,000 many years ago.  Spouse A sell the stock to Spouse B for $20,000 nine months after they are divorced.  Spouse A would recognize no capital gain on the sale and pay no tax.  Instead, Spouse B would receive a basis of $5,000 (instead of $20,000) and then owe the tax on any gain from a future sale that one would normally think belonged to Spouse A.  Ouch – this could bite the ill-informed!  These same laws, however, could be used in a positive manner for planning purposes.  For instance, if spouse A needed cash, and spouse B had large capital loss carryforwards that were likely to go unused, they could work out an arrangement to their joint benefit.

If property is stipulated to be transferred by a divorce decree, the tax-free transfer laws apply for six years.  Beyond six years, the tax-free transfer laws can still be applied if facts and circumstances support the idea that the transfer was carrying out the division of property stipulated by a divorce decree.

Sometimes, it is not always clear what qualifies as property for the asset transfer rules.  For instance, transferring the right to receive future income can be a gray area.  There are also other exceptions to the rules such as when trusts or nonresident aliens are involved, etc.  It is always best to get sound advice before acting!

Court Orders

It is also important to remember that a court order is a controlling document.  Generally speaking, whatever is decided in a court order will govern and override any default tax laws that would otherwise control.  It is best to seek competent tax and legal advice, so you have a clear idea of what to expect, and have the opportunity to negotiate the tax aspects of your settlement.

Prior articles are republished on my website at www.tlongcpa.com/blog.

IRS Circular 230 Notice: To the extent this article concerns tax matters, it is not intended to be used and cannot be used by a taxpayer for the purpose of avoiding penalties that may be imposed by law.

Travis H. Long, CPA is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.

Divorce Taxation – Part III

Originally published in the Pacific Grove Hometown Bulletin

July 4, 2012

Since it is July 4th, and we are discussing divorce, I suppose it would be appropriate to say, “Happy Independence Day!”

Tax Carryforwards

When going through a divorce it is important to realize you may have valuable “tax assets” that need to be divided according to tax law or negotiated between spouses.  Capital loss carryforwards (such as those generated by stock sales) are supposed to be allocated based on whose assets from the past created the losses.   Net operating loss carryforwards (such as those generated by a large business loss) are supposed to be determined by recalculating what the losses would have been if you had been filing separate.  Minimum tax, general business credit, and investment interest expense carryforwards can be negotiated.

Suspended passive activity losses (such as those generated by rental properties) go with the individual receiving the property, however, there are some pitfalls to avoid that could require the passive activity losses to be added to basis, rather than becoming immediately available to the spouse receiving the property.  If you happen to have bought a house with the $8,000 homebuyer credit that has to be repaid, the person who takes the home becomes solely responsible for repayment.

In practice, I have not seen the IRS come down heavily on how carryforwards are divided, but it is important to know what you are entitled to, so you do not miss out on something that could save you money down the road.

Children

Children present a number of planning issues in a divorce.  Tax benefits related to children include the child’s exemption, child tax credits, dependent care credits, exclusion of income related to dependent care benefits, earned income credits, education credits, and head of household filing status.  The custodial parent (defined for tax purposes as the parent who lived with the child most during the year) is generally the one eligible for these benefits, although the custodial parent may release two of those (the exemption and child tax credits) to the noncustodial parent by filing Form 8332, and keep the remaining benefits. As discussed in a previous issue in this series, it is also possible for both spouses to claim head of household if the abandoned spouse rules are met.  If both parents meet certain qualifying child rules, they can also each claim medical and health insurance expense deductions they pay for the child and can distribute money from HSAs, MSAs, etc. for the child’s benefit.  When multiple children are involved, planning can be done to preserve the head of household status for both spouses.

Child support payments are not taxable income to the recipient parent, nor are they deductible by the parent paying the child support.  Alimony on the other hand is income to the recipient, and deductible by the paying parent.  Be sure your divorce decree is clear and specific on the payment of alimony and child support.  Alimony is a tricky area and you must be very careful about how it is paid.

To be continued next issue…

Prior articles are republished on my website at www.tlongcpa.com/blog.

IRS Circular 230 Notice: To the extent this article concerns tax matters, it is not intended to be used and cannot be used by a taxpayer for the purpose of avoiding penalties that may be imposed by law.

Travis H. Long, CPA is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.

Divorce Taxation – Part II

Originally published in the Pacific Grove Hometown Bulletin

June 20, 2012

Community Property/Income and Deductions

A complicating factor with divorces is that state law governs a good bit of how taxation will work, and each state has different laws. California is one of nine community property states.  It is has similarities to other community property state tax laws, but differences as well.  In California, community property laws say that income and deductions derived or expended while married are generally split 50/50 during the community period.  The income and deductions generated after the community period ends belong to each taxpayer.  The community period for California purposes ends when the taxpayers separate with no intent to get back together.  This does not require a final decree of divorce or separate maintenance, but is based on facts and circumstances.

Many divorcing couples often take the approach, “You report your W-2 on your returns and I will report mine on my returns,” but that is technically not correct since in most cases they should each be reporting half of each other’s W-2 during the community period.  Spouses are required to provide the necessary information for the other spouse to file a complete and accurate return.  This situation can lead to an advantage or an abuse depending on the familiarity of each spouse with the tax laws.

Although the laws do get complex, generally speaking, community property is anything acquired during the community period, or any separate funds brought into the marriage that are tainted by intermingling the funds with community funds. If the taxpayer maintained any separate property during the marriage, then the income and deductions for separate property would go to the spouse who owned the property.  An example of this would be: Spouse A brings a rental property and a large bank account to the marriage and maintains it in his or her own name.  Spouse A uses the bank account exclusively for the rental property and pays all rental property expenses and deposits all the rental property income into the bank account.  Since there is no intermingling with any assets created after the marriage began, the property would maintain its character as separate property and the income and deductions would fall 100% to spouse A in the year of divorce.

Splitting Tax Withholdings and Estimates

Taxes withheld (such as with a W-2) during the community period are generally split 50/50.  Estimated tax payments made are credited under the taxpayer whose social security number is submitted with the payment.  Individuals going through a divorce should be alert to this as they may not realize the other spouse has made payments in their own name from community property funds.  For California, estimated payments with both social security numbers submitted are applied to the tax return of the first taxpayer to file.  However, taxpayers are supposed to submit a notarized statement signed by both individuals prior to either filing, specifying how the taxes withheld and joint estimates should be applied.  Note, a court order in the divorce proceedings will control and overrule any of these laws, including a retroactive application of joint estimated payments to the spouse the court order specifies.

To be continued next issue…

Prior articles are republished on my website at www.tlongcpa.com/blog.

IRS Circular 230 Notice: To the extent this article concerns tax matters, it is not intended to be used and cannot be used by a taxpayer for the purpose of avoiding penalties that may be imposed by law.

Travis H. Long, CPA is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.

Divorce Taxation – Part I

Originally published in the Pacific Grove Hometown Bulletin

June 6, 2012

Once in a while, I work with clients that are going through a divorce.  And once in a while in those once in a whiles, I work with clients who are both happily going through the divorce process, and seem to get along better than most married couples I know!  Most of the time, however, it seems to be a challenging and confusing time with a lot of mixed feelings on both sides.  Another aspect of divorce that can be challenging and confusing is the taxation in the years surrounding the divorce.

One of the most common themes I see with individuals going through divorce is that many tax issues are not even considered in the process.  People know it is a good idea to hire an attorney, but they forget to consult a competent tax professional about how it will play out, or what they may want to have their attorney negotiate on their behalf.  For many people they think the only tax consideration is who gets to claim the child, if one is involved.  In reality, there are several big issues to consider, and the tax law can sting those who are not aware.

In the next few issues I will go over some of the ground rules and areas of interest pertaining to taxation during a divorce including filing status options, community property laws, splitting income and deductions, crediting tax withholdings and estimated payments, allocating carryforwards, effects of children, transferring assets, and court orders.  It is also important to note that state law heavily governs divorce taxation.  I will be speaking from the perspective of California residents throughout the articles.

Filing Status

A basic question when going through a divorce is “What filing status should I use?”  The answer is that it comes down to your status on the last day of the year.  Taxpayers are considered unmarried for tax purposes if the final decree of divorce or a decree of separate maintenance is obtained by the end of the year.  If either of those two triggering events occurs, they would file Single or Head of Household returns as applicable.  Otherwise, they are still considered married and would file joint returns or Married Filing Separate returns.

One interesting exception, however, is that one or both individuals can claim Head of Household status while still married if they meet the Head of Household rules, and the spouses did not live together during the second half of the year.  These rules are sometimes referred to as the “abandoned spouse rules.” Many tax preparers are unaware of these rules, but they can be quite advantageous since divorcing individuals often do not want to file jointly, and Head of Household status is typically much better than Married Filing Separate.

To be continued next week…

Prior articles are republished on my website at www.tlongcpa.com/blog.

IRS Circular 230 Notice: To the extent this article concerns tax matters, it is not intended to be used and cannot be used by a taxpayer for the purpose of avoiding penalties that may be imposed by law.

Travis H. Long, CPA is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.