Tax errors in divorce agreements are costly: Here’s how to avoid them is the title of an article by Eva Rosenberg, in Dow Jones MarketWatch.
Lynne Gold-Bikin from Norristown, Penn, and an AAML Fellow, points out some frequent tax problems in divorce.
“Alimony recapture can be a common problem, cautions Gold-Bikin.
Tax errors in divorce agreements are costly: Here’s how to avoid them is the title of an article by Eva Rosenberg, in Dow Jones MarketWatch.
Lynne Gold-Bikin from Norristown, Penn, and an AAML Fellow, points out some frequent tax problems in divorce.
“Alimony recapture can be a common problem, cautions Gold-Bikin.
IRS Publication 504 explains what the recapture is: “You are subject to the recapture rule in the third year if the alimony you pay in the third year decreases by more than $15,000 from the second year or the alimony you pay in the second and third years decreases significantly from the alimony you pay in the first year.”
Why is this recapture needed if the divorce agreement is properly drafted? Gold-Bikin said this often happens when the alimony payments aren’t made on schedule. If several payments are missed in one year, then made up in another year, it’s easy to see that $15,000 swing take place. Or if payments are stopped altogether and there haven’t been three years of regular alimony payments, that would also trigger the recapture.
Why does this matter? Because the person paying the alimony will lose the deduction. And the person who received the money may go back and file amended returns for all the alimony years – and get refunds. Read that last sentence again if you’re dealing with a deadbeat former spouse. You may have a refund coming!
How can you avoid this problem? Gold-Bikin recommends you adhere to the alimony payment schedule.
When the divorce decree awards family support without spelling out which part is for child support and which is for spousal support, it’s all taxable to the recipient as alimony, and deductible to the payer, says Gold-Bikin. This the result of a 2005 Tax Court decision in Berry v. Commissioner.
What about a spouse who is asked to sign a joint return while the divorce action is pending?
“Gold-Bikin says it’s as easy as 1-2-3.
• Get an indemnification letter as part of the divorce, making your ex responsible for his/her share of all taxes. And be sure that indemnification letter includes specific instructions for how any refunds are to be allocated. While IRS may not honor the agreement between the two of you, it does give you a basis to sue your ex, if you’re ever stuck paying his or her share of the tax.
• Don’t ever sign a balance-due tax return without getting a certified check to pay your ex’s share in full. Don’t rely on promises from your ex or his/her attorney. They’re rarely fulfilled.
• If there is a refund coming, use IRS’s new Form 8888 that allows you to have the refunds split up in any pre-determined allocation, and deposited directly to two different bank accounts.”
Another frequent problem is that “assets appear to be evenly split based on fair market value. Everything looks all nice and equitable, but one person just got stuck with all the taxable assets, while the other walked off tax-free.”
