Years ago, when Charles M. Green transitioned from a career in finance and accounting to become a Los Angeles divorce lawyer, his MBA and CPA background formed the foundation for his success.
Divorce is a step that must be considered carefully, with eyes wide open, before being taken. It can devastate families, incite emotional breakdowns, obliterate finances and create lingering problems that can last years. In addition, if you don’t pay careful attention, it can wreak havoc with your taxes.
10 things you need to know when filing your tax return during or after a divorce:
1. Get a CPA and/or tax attorney to look at your settlement.
No matter what your line of work or level of education, there are some things you shouldn’t tackle yourself. A post-divorce tax return is one of them. And both parties in the divorce should find tax attorneys, who will consult separately with their clients. Don’t make the mistake of trying to do this together, no matter how amicable the divorce might be.
2. It’s best to file jointly while in the process of divorcing.
Filing singly before you have to (that is, after the divorce is final) will cost you in taxes, and it will cost both of you. File together until you are divorced. Once that is completed, you should file singly with the IRS.
3. Negotiate the refund or payment of taxes in advance of filing.
Depending on the time of year your divorce becomes final, the amount of a tax refund that goes to you and/or your ex can add up. If, for example, you separate in September, you might agree to split the refund in quarters; three-quarters being split equally, and the last quarter going to you or your ex directly, depending on the settlement agreement. By the same token, if you owe the IRS money, you might split the liability the same way.
4. Split your property with your taxes in mind.
Some properties, like real estate, are not taxable in a divorce settlement. The same is true of some stocks. Determine what items are taxable and which ones are not before you start trying to estimate your taxes and your income. You must be very exacting in determining value of any properties you’re including in the settlement.
5. Your kids are not taxable footballs.
One of you will be able to write your children off as deductions. The other will not. You need to negotiate this as part of your divorce settlement. In many cases, the partner making the most money will take the deduction, but sometimes the incomes are very close, or there is some disagreement about the child deduction. Occasionally, splitting spouses will agree to switch off from year to year on deducting the children. This should all be negotiated at the time of settlement (or can be left to the judge to decide), and not left until you have to file a tax return for the first time after the divorce.
6. Alimony is taxable, but child support isn’t. Except when it is.
Actually, the way it works is this: The person paying child support in the divorce agreement does not get to deduct the payment, but the person receiving the support does not have to pay taxes on it. With alimony, the situation is reversed: The person paying can deduct the payments, while the person receiving it is taxed on what they received. So from an alimony tax standpoint, it is better to give than to receive.
7. Lump sum payments are possible, but tricky.
Sometimes, a divorce agreement is drawn up in a way that allows the person paying alimony and/or child support to make one lump sum payment rather than monthly or quarterly installments. This is allowable, and sometimes advisable (it places a cap on the amount of money going from one party to the other), but it can make your tax return more complicated, something no one is happy about doing. If you don’t calculate it perfectly—another reason to hire a competent tax attorney—the IRS will tax your lump payment as it would tax normal alimony, which will drastically increase the amount of tax you are required to pay. It’s necessary to get your CPA and tax attorney on the same page here and be sure to let the IRS know what you’re doing.
8. Expect the unexpected.
Divorces between people who once vowed to love each other until death do they part can be extremely contentious. Unreported income and hidden assets are often alleged in divorce proceedings, with the spouse not running a business claiming unreported income should increase the stated value of the family business and the amount of alimony and child support. The higher something is valued, the more tax must be paid on it. Be prepared for claims, and don’t agree to invalid ones.
9. It ain’t over ‘til it’s over. Sometimes, not even then.
Just because your divorce is final, you shouldn’t expect all tax issues to be settled. Keep your tax preparer and tax attorney on the job for at least a few years after the divorce, since issues will continue to arise. Professionals can anticipate difficulties, but it becomes more difficult if they weren’t involved from the start.
10. It should go without saying—be careful and exact.
Everything in a divorce settlement is subject to an IRS review, and this becomes more of an issue the higher the income of the parties involved might be. The larger the number, the greater the possibility of close scrutiny. Anything the government considers improper or questionable can lead to a review or an audit, neither of which is the least bit desirable. Make sure when divorcing that you dot all your financial “i”s and cross all your “t”s before filing with the IRS.