Tax Planning for Life Events

Managing taxes can be challenging during significant life events, such as marriage, divorce, having children, buying a home or retiring. Proper tax planning helps minimize the impact on your finances and enables you to take advantage of available tax deductions and credits while complying with all applicable laws and regulations.

Capital Gains

Often, as part of a separation or divorce, investment properties are transferred between the spouses on a tax-deferred basis. This defers the capital gains tax liability until the property is sold, but it does not eliminate it. This is an important consideration in negotiating the property division.

Divorcing spouses should also consider the impact of taxes on the transfer of cash and assets, including retirement accounts, life insurance policies and business ownership interests. A tax professional, Certified Divorce Financial Analyst or divorce mediator can help you consider the implications of these transfers and provide advice on strategies for minimizing the tax impact.

For example, it is possible for a couple to avoid federal capital gains tax on the sale of their primary residence if they sell it in the year that their divorce is finalized and meet certain ownership and use requirements. This approach allows each spouse to exclude up to $250,000 in gain from taxation.

Mortgage Interest

If you bought or built a house during your marriage, it’s considered marital property and subject to equitable division. However, if you include plans in your divorce settlement agreement to sell the home within six years of your marriage’s end, you won’t have to pay capital gains taxes.

It’s common for one spouse to keep the family home after a divorce. In that case, a buyout is often arranged. The buying spouse typically refinances the mortgage loan and obtains funds to cover any additional expenses or equity that has built up.

If you decide to retain the home, you’ll need to arrange who gets the mortgage interest tax deduction. This is an important consideration if your spouse has lower income than you and is in a lower tax bracket. Moreover, you may need to adjust your withholding to reflect the change in filing status. This is especially important if you file jointly and then switch to single filing after your divorce.

Property Taxes

The emotional and financial issues surrounding a divorce can lead to unintended tax consequences. One of the most common issues is the transfer and sale of property and assets between spouses. Often these transfers are prescribed in a legal document and are considered “incident to” the divorce. However, this presumption can be reversed if the transfer is not related to the end of the marriage or does not occur within six months of the divorce.

Carefully reviewing all transactions during the divorce process is essential to determine if they are “incident to” a divorce. For example, if a spouse gives his or her share of the marital home to another person or to an IRA, the sale will not trigger a taxable event because the transfer is considered to be incident to the divorce. However, if the same spouse sells the home years later, capital gain taxes will be due. The $500,000 exclusion for home sales applies only if the spouse met the requirements of Secs. 1041 and 121.

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