The scenario is all too familiar. A couple is in the throes of divorce and it is time to file the tax return. Despite the fact that the couple is divorcing, their marital status as of December 31 of each year controls their filing status for that entire year. If the matter is being heavily litigated, divorcing couples may have to face the filing status decision over multiple years. Married couples have the option on their federal income tax returns to file jointly or separately. The IRS encourages married couples to file joint tax returns by extending tax breaks to couples that choose to file jointly. Couples who file separately receive fewer tax considerations. For example, separate tax returns may provide for a higher tax with a higher tax rate and the standard deduction for couples who file separately is lower than that provided to joint filers. So, usually it’s best for married couples to file jointly. But, despite the financial benefit, it may be wise to submit separate returns.
The hazards of filing a joint return may outweigh the benefit of the tax savings, with the biggest risk being joint and several liability for payment of the taxes. In some instances, the risk can be significant. Even if one of the spouses did not generate the income on the return, the other spouse can be held responsible to pay all of the tax, interest and penalties solely because he or she signed the joint return. For example, there may be instances where one spouse may stop paying the taxes in order to create a tax debt that may be shared. Often, divorcing couples are forced to liquidate retirement accounts to fund expenses or counsel fees that generate unexpected taxes and penalties associated with the income from the withdrawals. Indemnification agreements provide no comfort because they do not bind the IRS, which may pursue collection proceedings against either spouse even after the divorce is finalized.
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