Divorce & Taxes: Filing Taxes While Divorce is Pending
Divorce & Taxes… To the disappointment of everyone involved in a divorce or legal separation, the Internal Revenue Service (IRS) will not give special extensions, or wait until a case is finalized, for the filing of tax returns. Tax returns will become due and you must be prepared. Ultimately, if you have the benefit of choice, your tax CPA will have the most expertise regarding the advantages and disadvantages of the method you choose to file taxes. This article merely serves as an overview of possibilities to discuss with your attorney and your tax CPA.
The choice between filing joint or separate tax returns
Whether spouses in a dissolution of marriage action can file a joint tax return largely depends on whether one spouse agrees to do so. If you are separated from your spouse, and not yet divorced, you are required to file your tax return as a married person filing separately at the end of the taxable year, unless you and your spouse agree to file a joint tax return. The courts will not order either spouse to file a joint tax return if one spouse does not want to.
If you are not sure if you should, or if your spouse is not yet in agreement, you can file a separate tax return before the due date. Doing so will prevent you from missing the deadline to file and it will give you time to continue working with your spouse, your attorneys, and your tax CPA, to determine if amending your separate return to a joint return is the best decision for you. Note: there is a time limit to amend your separate return and an exception to being able to amend your separate return under specific circumstances—consulting with your CPA is critical.
Why does the choice matter?
Most people want to maximize their tax savings each year. Generally, filing joint tax returns leads to substantial tax savings because joint returns tax married couples as if each spouse has the exact same taxable income.
Furthermore, most people want to limit their tax liability exposure. Each spouse is jointly and severally liable for the tax shown on a joint tax return, including any tax deficiencies, interest, and penalties attributable to the other spouse.
Choosing between filing jointly or separately may boil down to whether one spouse is willing to risk potential exposure. If negotiating a settlement, this savings vs. potential liability dynamic could be an advantage or disadvantage in discussions.
Possible Relief from Joint Tax Liability
If a joint tax return is filed, ultimately, and a spouse is later subject to joint liability for deficiencies, interest, and penalties, that spouse might have some options available to them for relief. Without going into the complexities of each (please consult with your attorney and tax CPA), these options may include:
- Indemnification from the Other Spouse. This requires both spouses to sign an indemnification agreement before, or at the time of, the signing of a joint return, to protect against that a spouse’s potential errors or omissions.
- “Innocent spouse” relief. The Internal Revenue Code provides relief from liability for understatements of tax, including interest, penalties, and other amounts. There are several factors that must be met for “innocent spouse” relief, and the inquiry is fact-intensive and legally complex.
- “Separate liability” relief (separate liability election). The Internal Revenue Code provides relief from joint return tax deficiency liability by allowing a spouse, under specific circumstances, to elect to allocate any tax deficiency in proportion to each spouse’s contribution to the deficiency. As with “innocent spouse” relief, the inquiry is fact-intensive and legally complex.
- Equitable relief. When neither “innocent spouse” nor “separate liability” relief applies in a particular case, a spouse may still be relieved from joint liability for tax understatements and/or underpayments if holding that spouse liable would be “inequitable” under the facts and circumstances of the case.
Why should I consult with my tax experts regarding the possible forms of Joint Liability Relief?
Acquiring as much understanding, and counsel, on the above forms of relief gives individuals filing joint tax returns the best chance to qualify for relief if issues of liability ever arise. The benefit of being able to file separately and later amend the return gives the “out-spouses” more time to investigate and gather information before making a final determination on how to move forward.
It is important to know your rights, responsibilities, and options regarding tax issues incident to divorce or legal separation. Our family law team at Naimish & Lewis can advise you on this and other family law matters. To schedule an initial consultation with an attorney at our firm, please contact us.
