Divorce/Separation and Relief from Joint Tax Liability
By Capt. Mario Franke, Fort Bliss Legal Assistance Office
One of the most neglected and often overlooked aspects of divorce is potential tax liability after a divorce. This article focuses on relief from joint tax liability if spouses have been separated for extended periods of time or a spouse is an “innocent” party. Generally speaking, both spouses may be held responsible, jointly and individually, for the tax and any interest or penalty due on their joint return (i.e., married filing joint tax return). This means that one spouse may be held liable for all the tax due even if all the income was earned by the other spouse. However, before a tax return can be considered a joint tax return, both spouses must generally sign the return.
In the unfortunate event that they are divorced, each spouse is still jointly and individually responsible for any tax, interest, and penalties due on a joint return for a tax year ending before the divorce. Importantly, this responsibility applies even if the divorce decree states that a former spouse will be responsible for any amounts due on previously filed joint returns.
Under certain circumstances, a spouse may be relieved of the tax, interest, and penalties on a joint return. The IRS provides three mechanisms for such spousal relief: 1) Innocent Spouse Relief; 2) Separation of Liability; and 3) Equitable Relief. Please note that one must file IRS Form 8857 to request relief under any of these categories.
Innocent Spouse Relief: All of the following conditions are required to file for said relief: a) the innocent spouse must have filed a joint return which has an understatement of tax (an “understatement” occurs when the tax shown on the return is less than the correct tax); b) the understatement of tax must be due to erroneous items of the other spouse; c) the innocent spouse must establish that at the time they signed the joint return, they did not know, and had no reason to know, that there was an understatement of tax; d) taking into account all of the facts and circumstances, it would be unfair to hold the innocent spouse liable for the understatement of tax; and e) the innocent spouse must request relief within two years after the date on which the IRS first began collection activity against them after July 22, 1998.
The following are examples of collection activity—when the IRS (1) sends a notice under section 6330 of the IRS’s intent to levy and of the taxpayer’s right to a collection due process hearing, (2) offsets a refund from another tax year and the taxpayer received a notice advising them of their rights under Section 6015, or (3) files a judicial suit or claim that puts the requesting spouse on notice the IRS intends to collect the joint tax liability from specific property belonging to that spouse.
Separation of Liability: This type of relief allows a spouse to divide/separate the understatement of tax (plus interest and penalties) on your joint return between them and their spouse. The understatement of tax allocated to the spouse requesting this relief is generally the amount of income and deductions attributable to their earnings and assets. To qualify for this type of relief, the requesting spouse must have filed a joint return and meet either of the following requirements at the time they file Form 8857: a) they are no longer married to, or are legally separated from, the spouse with whom they filed the joint return for which they are requesting relief; or b) they were not a member of the same household as the spouse with whom they filed the joint return at any time during the 12 month period ending on the date they file Form 8857.
Importantly, living apart does not include a spouse who is temporarily absent from the household. A temporary absence exists if it is reasonable to assume that the absent spouse will return to the household, or a substantially equivalent household is maintained in anticipation of such a return. A temporary absence may include absence due to incarceration, illness, business, vacation, military service, or education.
Equitable relief: This type of relief is only available if a) the spouse requesting the relief does not qualify for innocent spouse relief or the separation of liability election; and b) the IRS determines that it is unfair to hold the requesting spouse liable for the understatement of tax considering all the facts and circumstances. Please note that—unlike innocent spouse relief or separation of liability—if the requesting spouse qualifies for equitable relief, they can still get relief from an understatement of tax or an underpayment of tax. An underpayment of tax is an amount properly shown on the return, but not paid.
Among the important factors considered by the IRS are the following: current marital status; a reasonable belief of the requesting spouse—at the time he or she signed the return— that the tax was going to be paid; or in the case of an understatement, whether the requesting spouse had knowledge or reason to know of the understatement; current financial hardship/inability to pay basic living expenses; spouses' legal obligation to pay the tax liability pursuant to a divorce decree or agreement to pay the liability; to whom the liability is attributable; any significant benefit received by the requesting spouse; mental or physical health of the requesting spouse on the date the requesting spouse signed the return or at the time the requesting spouse requested the relief; compliance with income tax laws following the taxable year or years to which the request for relief relates; and any abuse experienced during the marriage.
Injured Spouse (Form 8379): Sometimes the IRS will apply a tax refund to a spouse’s past-due debt(s). These debts may be the opposing spouse's federal tax, state income tax, child or spousal support payments, or a federal nontax debt, such as a student loan. Please note that a spouse can get a refund of their share of the overpayment if they qualify as an injured spouse.
To be considered an injured spouse, one must: a) have made and reported tax payments (such as federal income tax withheld from wages or estimated tax payments), or claimed a refundable tax credit, such as the earned income credit or additional child tax credit on the joint return; and b) not be legally obligated to pay the past-due amount. Notably, if the injured spouse’s permanent home is in a community property state—such as Texas—then the injured spouse must only meet prong b).
Please note the distinction between injured spouse and innocent spouse relief. An injured spouse uses Form 8379 to request an allocation of the tax overpayment attributed to each spouse. An innocent spouse uses Form 8857 to request relief from joint liability for tax, interest, and penalties on a joint return for items of the other spouse (or former spouse) that were incorrectly reported on or omitted from the joint return.
Please also note that divorce has an effect on a multitude of other tax aspects, including—but not limited to—permissible/appropriate tax filing status; proper claiming of dependents; proper deduction of medical expenses of dependents in the custody of other spouse; proper claiming of child and education credits; proper deduction of alimony payments; tax treatment of child support payments; tax basis and capital gain implications of assets upon transfer from one spouse to another; capital gain implications of home sales; and how to best structure the transfer of retirement assets.
If you have more questions about this topic, please schedule an appointment to speak with an attorney at Fort Bliss Legal Assistance Office by either calling (915) 568-7141 during office hours or emailing firstname.lastname@example.org anytime.