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How are my taxes affected by my divorce?

There are many tax consequences that you should know about!!

Taxation Issues in Child Support and Alimony

Federal law provides that alimony and alimony pendente lite (APL) is usually treated as income for the spouse receiving support. Further, the spouse paying support will be allowed to deduct any payments of support. Child support is not deductible, and is not treated as income by the recipient of support. However if you have an “unallocated” order for support that includes both child support and spousal support the tax consequences can be enormous. The attorneys of Iwanyshyn & Associates are well-versed in the tax implications of child support and spousal support and can show how your net cash flow will be affected by utilizing various methods.

Taxation of Retirement Funds

People getting divorced often need more cash than is available to them. There may be one-time costs such as a down payment for a new house or paying attorney’s fees. The lack of cash can delay or aggravate the negotiations over the divorce settlement which might further reduce available cash. Yet some divorcing couples have plenty of money — in the form of retirement assets. People generally mistakenly believe that taking distributions from retirement assets prior t age 59 must result in a 10% penalty to the IRS.

What is meant by retirement assets? Most IRAs (but not the Roth or Education IRAs) and “qualified” employer-sponsored defined contribution retirement plans, including the 401(k), 403(b) money purchase, Keogh, SEP-IRA, SIMPLE IRA, and SAR-SEP plans.

For ease of understanding I will use the term 401(k) for all the above plans. 401(k) funds can be distributed without the 10% penalty to the non-employee spouse through the use of a Qualified Domestic Relations Order. Unless the 401(k) is a Roth 401(k) however, normal income tax will apply. This allows the non-employee spouse to buy a house and pay bills.

The attorneys of Iwanyshyn & Associates are experts at preparing these documents that are approved by the IRS so as to allow a withdrawal of cash without the penalty. The employee spouse does not have this benefit but proper planning can allow transfer of the cash to the non-employee spouse which can then be shared in some fashion by both parties if there is a cash flow crisis. We can help you determine what makes the most sense in deriving an equitable distribution plan that is beneficial to the entire family.

Taxation of Various Assets

No one asset, especially retirement accounts, should be looked at in isolation during your divorce settlement negotiations. You should be taking a holistic approach when dividing assets and liabilities during a divorce. Sometimes people suffering stress and anxiety during their divorce fail to look at the full scope of the situation and make decisions without doing the proper research and getting competent financial and legal advice. In the end, you may not want to divide retirement accounts if you and your soon-to-be ex, for example, decide that one of you gets the 401K and the other gets the house. Remember, if you do choose the house you will have numerous additional expenses to contend with, such as mortgage and tax payments, upkeep and repairs, etc. Nevertheless, it is absolutely critical that you carefully review all the short- and long-term financial and tax implications of your decisions. For instance, unless the 401K is a Roth 401K, the money in that account is pre-tax dollars (meaning, you haven't yet paid taxes on it). Therefore, the money in a 401K account does not have the same value as an identical amount of money in a bank account (most likely, you have already paid taxes on the money in your bank account).

There are many financial decisions to make during your divorce. They often require complex mathematical computations and a thorough knowledge of tax and financial rules. This is especially true when it comes to dividing retirement funds. Dividing retirement funds improperly can result in serious long-term consequences. Having Iwanyshyn & Associates work with you will not only keep you out of trouble, but also help secure your financial future.