Keep Tax Consequences in Mind Throughout Divorce

Newly-divorced or divorcing spouses might be dreading Tax Day, with questions about how divorce affects their taxes stirring up stress and anxiety. By understanding tax basics, however, spouses can avoid such unpleasant emotions. To stay stress-free during tax season and save money, spouses involved in a divorce should learn about its tax consequences.

First Thing’s First: Get Marital Status Straight

Determining your marital status when separated or divorced can seem complicated, but basically it is just based on timing. According to Time online contributor Kelly Phillips Erb, if divorcing spouses are legally unmarried as of the last day of the tax year, they cannot file as married. For example, Phillips Erb notes, Kim Kardashian and Kris Humphries, who separated in 2011, cannot file as married on their 2011 taxes. If Kim had waited until 2012 to file for divorce, the couple could have filed as married.

Head of household status provides another option to some spouses who were unmarried or meet the IRS definition of “considered unmarried” on the last day of the year, according to H&R Block. Additional requirements apply, but qualifying might mean getting more out of your federal return.

Financial Planning Helps Ease Divorce Transition

Some of the hardest decisions about divorce involve money, primarily dividing assets between the spouses. Going one step further, spouses must deal with divorce tax consequences of financial aspects such as marital property division. According to The Wall Street Journal, most property and money transfers made in the divorce are not taxed immediately. Instead, the receiving spouse steps into the other’s shoes when calculating future tax gains or losses. Be careful, though: in the past, the IRS has said that tax-free treatment only applies to transfers of capital-gains assets.

Sometimes, though, divorce-related assets are taxed immediately; for instance, IRAs and 401(k) account transfers are not automatically tax-free. It is possible to qualify for some tax relief, but you must file the right court documents.

It is also important to know how alimony and child support payments should be reported. Spouses paying alimony can deduct payments, while receiving spouses must report them as income. Child support is neutral; spouses should neither deduct nor report it.

Whether already divorced or beginning the process, spouses should contact a knowledgeable divorce attorney to arrange the divorce with tax implications in mind. An experienced divorce attorney can help you anticipate tax consequences and avoid taking on more tax obligations than necessary.