Tax Concerns Related to Divorce

The significance of the tax implications of a divorce can not be overstated. The valuation of any proposed settlement agreement must include a close inspection of the likely tax effects. An agreement's value to a client cannot be accurately measured without understanding the tax consequences any proposed agreement may produce. The type of alimony one agrees to pay, for example, can have a significant impact on whether or not alimony payments are tax deductible - which can drastically alter an agreement's worth. I always recommend that clients meet with a tax specialist during the representation. The Law Office of Jonathan T. Day, PLLC maintains relationships with tax professionals so that clients can have access to exactly the expertise that they need. With that in mind here are some general answers to some of the most frequent tax questions divorcing couples may have.

Should I file jointly or separately?
What was your marital status on the last day of the taxable year? If your divorce was final on or before December 31, you must each file separately as single or head of household for that year. If the divorce was not final by the end of the year you must file as a married couple for that year (either jointly or married filing separately).

Is alimony taxable?
Alimony payments are taxable, and therefore may be claimed as a tax deduction for the payor and as taxable income for the payee (the person receiving the alimony payments). However, not all forms of Mississippi alimony are tax deductible. In order for a payment to qualify as alimony under the Internal Revenue Code the payment obligation must terminate on the death of the payee. Of the four types of Mississippi alimony, only two meet the Internal Revenue Code's requirements - periodic alimony and rehabilitative alimony. Just because you are paying alimony in Mississippi does not mean that you automatically qualify for an alimony tax deduction.

Is child support taxable?
No. Child support is not taxable and cannot be claimed as taxable income nor as a tax deduction.

Who gets to claim the children on their taxes?
By default, the custodial parent (defined as the parent who has custody for the greater part of the year) is entitled to the dependency exemption. However, the custodial parent may waive the exemption by use of IRS Form 8332. Additionally, how tax credits and exemptions are to be divided can be determined by agreement, allowing for parents to split them evenly or for a non-custodial parent to claim credits or exemptions ordinarily reserved for the custodial parent.

How do divorcing couples divide assets for tax purposes?
After you divorce is final, asset division and corresponding tax liabilities will be laid out in your settlement agreement. If you are filing taxes in the middle of the divorce process, however, asset division and taxes can be rather complex - especially for high asset couples. Here are some things to think about:

• If you are selling your home, mortgage and property deductions are typically divided equally. However, you may want to speak with your accountant about cost-basis issues.
• If you are buying out the equity in your home, the spouse that has bought the home is usually entitled to any mortgage and property tax deductions.
• If you will be liquidating a 401k or an IRA, keep in mind that income gained from the liquidation of such accounts is taxed (except Roth accounts). A Qualified Domestic Relations Order (QDRO) will allow you to divide retirement accounts and potentially avoid taxes if transferred to a qualified retirement plan within certain time restrictions.
• If you are in the middle of a divorce and not sure what to do regarding property division, consider filing jointly or simply dividing deductions equally.

TIP: Take a look at IRS Publications 503 & 504.
IRS Publications 503 and 504 are references for separated and divorced couples. Publication 503 covers child and dependent care expenses. Publication 504 is a general reference for a broad number of divorce issues including alimony, filing status, exemptions, etc. The publications can easily be found by google search.

Of course this only scratches the surface of the tax implications a divorce may have, and how they may influence the value of a settlement agreement. These are simply some of the more common concerns. It is critical that you hire a divorce lawyer to help you negotiate for the best agreement possible, and speak with an accountant about all of the tax concerns surrounding your divorce.

Modification of Child Support

In Mississippi, the child support agreement may be modified if there has been a material change in circumstances of the child or parents, unforeseeable at the time of the award,  since the decree. The factors that the court will consider in determining whether a material change has occurred are:

• The increased needs of older children
• An increase in expenses
• Inflation
• A child's health and special medical or psychological needs
• The parties' relative financial condition and earning capacity
• The health and special needs of the parents
• The payor's necessary living expenses
• Each party's tax liability
• One party's free use of the residence, furnishings, or automobile
• Any other relevant facts and circumstances

If a court, after weighing the facts, determines that a material change in circumstances exists it will apply the statutory guidelines to determine the appropriate amount of support.

A payor's increased income by itself does not necessarily constitute a material change in circumstances - nor does the mere fact that children are older. Also, changes in income or expenses of a payor resulting from lifestyle choices are not reason to modify: a payor may not be allowed to reduce support based on newly acquired personal debt or costs of additional children in later families.

It is important to know that child support may generally not be modified via an out-of-court agreement between the parties. Although more recent decisions seem to confuse the matter, it is best to modify your agreement through the court - as the court is under no obligation to enforce an out-of-court-agreement between the parties and the payor may still be on the hook for arrearages.

Only payments not yet due may be modified. Vested alimony or support payments cannot be modified or forgiven by the court or the parties. Additionaly, a payor in arrears (behind on his/her support or alimony payments) may be denied modification - even if there has been a material change in circumstances.

Modification of your support obligations is a complicated process. If you are having difficulty making your support payments, or have recently had a significant change in income or circumstances it is in your best interest to contact a family lawyer.

Child Support 101

Once child custody has been determined, the question of child support arises. In Mississippi an award for child support is based on a percentage applied to the adjusted gross income of the noncustodial parent. These percentages are outlined in Mississippi Code Section 43-19-101 as follows:

• 14% for one child
• 20% for two children
• 22% for three children
• 24% for four children
• 26% for five or more children

These statutory percentages are presumed to be correct for child support payors with a gross adjusted income between $10,000 and $100,000. However, courts may deviate from the statutory guidelines if application of the statutory percentages would be "unfair or inappropriate". Mississippi Code Section 43-19-103 sets out a list of criteria which may serve as a basis for deviation from the percentage guidelines. Those criteria are:

• A child's extraordinary medical, psychological, dental, or educational expenses
• Other special needs of the child
• Shared parenting arrangements
• The age of the child
• Independent income of the child
• Spousal support to the custodial parent
• Total available assets of the parents
• Seasonal variations in income or expenses for one or both spouses
• Any other adjustment needed to achieve an equitable result

The court must make written findings of fact in any case involving payors with an adjusted gross income below $10,000 or above $100,000 - even if the court only applies the statutory percentages.

The percentages merely produce a basic child support award designed to cover a child's ordinary living expenses (shelter, clothing, food). It is possible that a noncustodial parent could be ordered to pay for additional expenses not covered by the basic award; things such as out of pocket medical expenses, health insurance, and life insurance. These payments may be ordered in addition to the basic support award without being considered a deviation from the statutory percentages.

The information presented here represents only the starting point of determining child support. It is a complicated issue that can have significant and long lasting financial ramifications.