As a CPA, I’ve worked with many clients navigating taxes after a divorce.
Unfortunately, by the time they came to me, many of these clients had already made decisions that cost them. In today’s post, I’ll explain how a divorce changes your tax situation so you can use this knowledge to potentially avoid costly mistakes.
How does divorce affect my tax filing status?
The biggest change you’ll notice when it comes to filing taxes after your divorce is that your tax filing status changes. Your tax filing status is based on your marital status as of December 31st of the tax year. Here’s what to remember:
- If you were divorced by December 31, you must file as Single or Head of Household (more on if you qualify for the latter status in a sec).
- If you were separated by December 31 but still legally married, you will file as Married Filing Jointly or Married Filing Separately.
Do I qualify to file my taxes as Head of Household?
Head of Household filing status usually offers better tax rates and a higher standard deduction than filing as Single. However, to qualify for Head of Household status, you must:
- Be legally divorced or unmarried on December 31 of the tax year,
- Pay more than half the cost of keeping up a home (for things like rent, mortgage, utilities, and groceries), and
- Have a qualifying dependent (child or relative) living with you for more than half of the year.
Who can claim the kids on their taxes after a divorce?
This is usually the most contentious issue when it comes to divorces and taxes, and the outcome of this decision can drastically change your tax bill.
The issue here is that only one parent can claim a child as a dependent for tax purposes during any given tax year. Usually, the parent that claims the child as a dependent is the custodial parent, which is the parent the child lives with most of the time. However, the custodial parent can sign Form 8332 to allow the non-custodial parent to claim the child as a dependent.
The reason why it matters who can claim the child as a dependent is because that parent may also qualify for other tax credits like:
My advice when deciding which parent can claim a child as a dependent is to work with a divorce attorney who knows how to clearly spell out in your divorce agreement who gets to claim the child(ren) each year. Some parents do alternate years, especially if they share custody equally.
Of course, you’ll also want to provide a copy of your divorce agreement to your accountant so your taxes are filed correctly.
Are alimony and child support taxable?
It’s important to understand how alimony and child support can affect your taxes and income. If you’re in the process of divorce, this is something you’ll want to walk through with your attorney and accountant.
The Tax Cuts and Jobs Act (TCJA) changed how alimony and child support are taxed. As far as alimony (aka spousal support) goes, if your divorce was finalized on or after January 1, 2019, then alimony is not deductible by the payer and not taxable income for the recipient. The opposite was true before 2019.
When it comes to child support, those payments are also not tax-deductible and are not considered taxable income no matter when your divorce was finalized. That was unchanged by TCJA.
Do I have to pay taxes on assets or property that I get during a divorce?
Usually there’s no immediate tax hit when you divide property during a divorce. Transfers between spouses as part of a divorce are generally not taxable under IRS rules.
One thing to keep in mind is that if you receive assets like stocks or retirement accounts, the original cost basis for those assets transfers to you. This means that if you sell those assets later, you may owe capital gains tax based on the original purchase price and not on the value of those assets when you received them during the divorce.
As for retirement accounts like 401(k)s or IRAs, these can be split but should be done carefully and with an attorney or accountant’s oversight because there is sometimes special paperwork required. For instance, to divide certain types of retirement accounts like 401(k)s without triggering additional taxes or penalties, you must file a Qualified Domestic Relations Order (QDRO).
Do I have to pay extra taxes when we sell our home during a divorce?
This is something that I’ve heard clients ask before, and it’s a common misconception. The same tax rules apply to the sale of your home no matter if the sale is during a divorce.
The good news is that unless you have quite a bit of capital gains coming from the sale of your home, you won’t need to pay taxes on that profit. What you need to know is:
- If you and your ex sell the home while still married, you can exclude up to $500,000 of capital gains from your income if you owned and lived in the home for 2 of the previous 5 years and if you filed jointly in the year of the sale.
- If you sell the home after the divorce (as single filers) each of you can exclude up to $250,000 of capital gains as long as you each lived in the home for 2 of the previous 5 years.
What paperwork do I need to file with the IRS if I’m getting divorced?
There isn’t a specific form you need to fill out with the IRS to notify them that you’re getting a divorce. As I explained, your tax filing status will change when you file taxes, so that is the big one.
However, there can be lots of paperwork details (and headaches) that come with divorce, and your tax and financial paperwork is part of that. Remember to:
- Update your W-4 withholding form with your employer, including your new tax filing status and number of dependents.
- Update the beneficiaries listed on your life insurance policy, retirement accounts, and will.
- If you have a new residence, update your address with the IRS using Form 8822.
How does divorce affect my business taxes?
I have written a separate post about tax tips to help you avoid problems if you’re a business owner going through a divorce. I also highly recommend consulting with an accountant before making any divorce-related business decisions that could affect your business finances.
Abridged by Amy
Even if your divorce seems straightforward, in addition to working with an attorney, I strongly suggest working with an accountant during the year of your divorce and the year after to make sure that an already difficult situation doesn’t turn into a financial and tax nightmare.
And even if an attorney has helped you draw up and complete your divorce documents, allowing an accountant to look over the paperwork and talk through your financial decisions can help you have peace of mind that nothing was overlooked and that you are in as strong of a financial position as you can possibly be.
