Tax regulations are highly complicated and complex (hence the tax accounting industry), so what is presented here is a generalized summary for more common situations. It may not apply to you if your situation is more complex than average.
Equitable Distribution Property Transfers
Generally speaking, when the marital assets are divided up between the spouses, there is no recognized tax gain or loss (however, you may have to report the transaction on a gift tax return). Any transfer of property to a spouse or former spouse on which gain or loss is not recognized is treated by the recipient as a gift and is not considered a sale or exchange. The transfer of assets has to be incident to the divorce, occurring within one year after the date your marriage ends or is related to the ending of your marriage. A property transfer is related to the ending of your marriage if the transfer is made under your original or modified divorce or separation instrument AND the transfer occurs within 6 years after the date your marriage ends.
Sale of Property or Home
If you sell property that you and your spouse own jointly, you must report your share of the recognized gain or loss on your income tax return for the year of the sale. You each may be able to exclude up to $250,000 (up to $500,000 if you and your spouse file a joint return — your status is determined on December 31 each year) of gain on the sale. The exclusion applies as follows:
- You must have lived in the principle residence for 2 of the last 5 years
- Each spouse is eligible for the $250,000 exclusion
- The $250,000 exclusion can be applied on the sale of another home every 2 years
- If it is done sooner than 2 years, it is prorated
- If the couple jointly own the house after the divorce, and if one of them qualifies for the $250,000 exclusion because they occupied the house 2 out of 5 years, then the other spouse also qualifies for the $250,000 exclusion
- If one spouse buys half the house from the other during the first year after the divorce, the basis on the original half is the original basis of that half; the basis of the 2nd half is the selling price
- In this case, the seller (or owner of the first half) pays no tax
If you transfer your home to your spouse, or to your former spouse incident to your divorce, you generally have no gain or loss (unless the Exception, discussed next, applies). This is true even if you receive cash or other consideration for the home.
If you owned your home jointly with your spouse and transfer your interest in the home to your spouse, or to your former spouse incident to your divorce, the same rule applies. You have no gain or loss. Exception: these transfer rules do not apply if your spouse or former spouse is a nonresident alien. In that case, you generally will have a gain or loss.
If your home was transferred to you by your spouse (or former spouse if the transfer was incident to divorce), you are considered to have owned it during any period of time when your spouse owned it.
Use of home after divorce: you are considered to have used property as your main home during any period when: you owned it, AND your spouse or former spouse is allowed to live in it under a divorce or separation instrument and uses it as his or her main home. These rules allow for the spouses to continue to own the home after the divorce (i.e. to allow a child to finish school) and allow the non-resident owner to maintain their exemption.
Again, see a tax professional before making any decisions.
Child support has no tax implications for either spouse; it is considered neither income nor deductible. If you think about it, your child’s expenses would be paid whether you remain married or get divorced.
For alimony, the couples have a choice. The first option is that the payer can take it as a deduction on their taxes and the recipient counts it as income. Or the couple can agree to make it tax neutral — neither a deduction nor income resulting in no tax effects. This can be discussed in mediation and incorporated into the memorandum of understanding and the property settlement agreement.
To be eligible for a deduction, the following conditions must be met:
- You and your spouse or former spouse do not file a joint return with each other,
- You pay in cash (including checks or money orders),
- The divorce or separation instrument does not say that the payment is not alimony,
- If legally separated under a decree of divorce or separate maintenance, you and your former spouse are not members of the same household when you make the payment,
- You have no liability to make any payment (in cash or property) after the death of your spouse or former spouse; and
- Your payment is not treated as child support.
There is an advantage in choosing the deduction. Let’s assume that the alimony payer is in the 33% marginal tax bracket and agrees to pay $2,000 per month to the payee who earns far less and is in the 15% tax bracket. The deduction on the payer’s support payment would amount to $660 per month or $7,920 per year. The tax incurred by the payee on the same $2,000 payment would be $300 per month or $3,600 per year. So, due to tax effects, an additional $4,320 per year has been “created” and can be shared via negotiated between the parties.
Costs of Divorce
You cannot deduct legal fees and court costs for getting a divorce. But you may be able to deduct legal fees paid for tax advice in connection with a divorce and legal fees to get alimony. In addition, you may be able to deduct fees you pay to appraisers, actuaries, and accountants for services in determining your correct tax or in helping to get alimony. Fees you pay may include charges that are deductible and charges that are not deductible. You should request a breakdown showing the amount charged for each service performed.
You cannot deduct fees you pay for your spouse or former spouse, unless your payments qualify as alimony. If you have no legal responsibility arising from the divorce settlement or decree to pay your spouse’s legal fees, your payments are gifts and may be subject to the gift tax.
You can get more information at the IRS website for:
- Publication 504, Separated or Divorced Individuals
- Publication 523, Selling Your Home
- Publication 544, Sales and other Dispositions of Assets