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Divorce at Tax Time: Handling Exemptions

IRS Form 1040
Tax time is a wonderful time of year.  You gather up all of your W-2’s and 1099s.  Your box of receipts gets dumped out, and you start to sort through what can be deducted and what cannot be deducted.  As you start to complete your tax return, you are thankful for the deductions your children provide, but still may sigh at the amount that gets paid over to the government from your hard earned income. So much for the wonderment of tax time!

The “short form” IRS documents are anything but short or easy. If you were divorced in 2013, another complication is added to the heap. How do you file? Married or unmarried?  Who claims the children as dependents?  These questions are often asked of family law attorneys and accountants this time of year.

As a disclaimer, I am neither an accountant nor a tax professional, so any questions regarding taxes should be directed to those individuals.

For your filing status, you have four options: Single, Head of Household, Married Joint or Married Separately.  The key date (and, technically, time) is 11:59 p.m. on December 31.  If you were still legally married, that is your Judgment for Dissolution was not actually signed by the judge, you are still married and will need to file as either married filing jointly or married filing separately.  If you were divorced as of that time, you need to file as either single or head of household (if you qualify).  The time and date rule greatly simplifies the matter since it does not require a determination of how much of the year you were married/unmarried or determine if you should file married or single.

As a result of this rule, some strategy might be employed regarding the timing of the entry of a divorce decree and the filing of the tax return.  Some spouses/parents try to maximize their own benefits by filing a separate return and claiming all the child dependency exemptions and deductions on their own return, often without notifying the other spouse of their intentions. Of course, such unilateral action without communication with the other spouse/parent is sure to raise the ire of that other spouse/parent and lead to additional tensions and maybe even additional litigation and litigation expenses.

There is better, long term strategy. Even though there is a divorce, parties can work together to plan out their tax returns. An accountant’s help is beneficial to determine whether it makes sense to file one last joint return or for each of the parties to file as single or head of household. This takes some agreement and coordination, but parties who can work together for their mutual benefit, in spite of the pending divorce, always come out ahead.

If it is determined that the parties will do better by filing one last joint return, they might hold off on the entry of the actual judgment of dissolution of marriage until the start of the New Year. Even if parties have agreed on everything, signed the marital settlement agreement and/or joint parenting agreement and have had a prove-up hearing, waiting to finalize the dissolution of marriage to allow the filing of a married joint return one final time may maximize the tax refund or minimize the shortfall.

If there is no benefit to filing a final, joint return, the parties may ask the court to bifurcate the proceedings to allow an early filing of individual returns. Bifurcating the proceedings means the court will enter a divorce judgment terminating the marriage before the start of the new year, leaving the remaining matters (such as support, custody, property division, etc.)  for a later date.  Judges are sometimes reluctant to bifurcate proceedings, as doing so can result in the case lagging for an extended period with no final resolution (with the motivation to be divorced satisfied), but it can be done by agreement and assurance of the parties.

In either event, the parties should be aware of settlement terms dealing with tax issues, such as deductions for things such as medical expenses, deductions related to the marital home, how refunds or liabilities are to be allocated and indemnification from each other in regard to false information on tax returns or leaving out language on tax returns.

One other important issue that arises this time of year in child support matters is the allocation of the dependency exemptions.  As a general rule, the IRS only allows the custodial parent to claim a child.  An exception to this rule is provided when the custodial parent executes IRS Form 8332 allowing the non-custodial parent to claim a child.   The exception obviously requires the cooperation of the parties.

When parties do not cooperate, difficulties are encountered. If both parties claim the same child on separate returns, the later return may be rejected.  If one parent claims the exemption and was not entitled to claim the exemption, the matter usually ends up back in court at the expense of both parties.

Exemptions are not an all or nothing proposition. Exemptions are often split between the parties by agreement. Sometimes each parent claims some or all of the exemptions every other year. This is often the case when the parties have an odd number of children.

A custodial parent may balk at the loss of a tax exemption, but shifting or sharing the exemption(s) can benefit both parties. When the non-custodial parent claims the tax exemption, his or her net income increases; and the net increase in income increases the child support obligation.  The grant of the exemption to the non-custodial parent also can be used to increase the likelihood of staying current on the payment of support. Child support orders often allocate the dependency exemptions to the non-custodial parent on condition that they are current in their support obligations. If they fail to make their support payments, they are not entitled to claim the exemption(s).

Filing tax returns and paying taxes is difficult enough.  Tax time can be more bothersome in a divorce setting.  Planning ahead and being cooperative with a spouse during a pending divorce or an ex-spouse can eliminate some of the sting, even if it still is not an enjoyable endeavor.

Roman J. Seckel
Drendel & Jansons Law Group
111 Flinn Street
Batavia, IL 60510
[email protected]

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The Drendel & Jansons Law Group practices law in Illinois, and the discussion in this article presumes the application of Illinois law. The principles and opinions expressed are general in nature and are not intended as specific legal advice applicable to specific situations. No interaction in regard to this article is intended to establish an attorney/client relationship.