Getting divorced is tumultuous not only personally and professionally, but also financially, and many people are not prepared for this by the time the divorce is final. Although a non-contested divorce generally does not involve the expenses of more involved litigation, the division of marital property can carry hidden costs, especially if the spouses have not factored in tax implications.
Alabama is an equitable division state, which means that the court will divide all marital property, or all that either spouses acquired during the marriage, including commingled individual property or debt, in an equitable, but not necessarily equal, settlement.
Are there tax implications in property division?
During divorce, everything either or both spouses acquired during marriage becomes part of the inventory of assets, including the family home, bank accounts, stocks, bonds and business interests. It is important to pay attention to how the valuation of some assets can have tax implications down the line.
First, when dividing assets, it’s a good idea to think of the actual cash value of the property on the list for property division. For example, if the couple splits two IRA’s, one a traditional and the other a Roth IRA, one spouse will definitely come out ahead. The cash in the traditional IRA has never been taxed, so when it comes to withdrawing funds, taxes on the amount can be as much as 35%. The Roth, on the other hand, does not have such tax issues.
Not all stocks are created equal, either. Two holdings of the same stock valued equally will have a different tax on capital gains depending on how much the stock appreciated when it comes time to sell it.
How about tax credits and liabilities?
Recent tax law zeroed out the dependency exemption that parents can claim through 2025, but there may be other tax benefits in a divorce. If one parent’s income falls within a qualifying bracket, they may meet eligibility requirements for child-care, educational earned income and child tax credits.
Accounting for tax liabilities or credits that are part of property division in the divorce settlement is important. If you know that you have a tax refund coming due to underperforming business or stock losses, these “loss carry forwards” from previous years can offset current or future taxable income.
If the divorcing couple is filing joint returns and owes taxes, to avoid having the IRS go after them after the divorce, it may be best to file as married filing separately, or draw up a tax indemnification agreement for protection. It may make sense to find out more about complex financial issues when taking steps to protect your financial health during divorce.