The Tax Practice offers consultation, and representation on behalf of clients with property settlement proceedings. Many tax-related issues arise during the development of a post nuptial agreement. Among the most common and overlooked are the impacts of liquidating a client’s equity in the family home, the transfer of stock purchased through an employer incentive stock option plan, distinction given to property settlements and spousal support, and the child dependency exemption.
If the client is “buying-out” his or her spouse’s share of the family home, consideration should be paid to potential capital gains tax. This obstacle can be resolved by normalizing the settlement for capital gains tax or by satisfying regulations allowing for a capital gains tax exemption.
With the transfer of stock purchased through an incentive stock option plan, the recipient receives the stock’s cost basis and retains the holding period or original purchase date. When AMT tax is prepaid at initial stock acquisition, the transferred stock is taxed a second time – upon sale – unless arrangements are agreed upon to transfer the tax credit i.e., reimburse the transferor for the prepaid tax, or place the stock in a Constructive Trust for administering the stock sale and reimbursement to transferor. Too often, clients transfer stock only to find they are reopening settlement negotiations months or years later.
In 2004 Internal Revenue reversed their position to tax employee-spouses upon exercising non-qualified options transferred incident to divorce. Now, Revenue Ruling 2004-60 places responsibility for social security (FICA) and income tax withholdings with the receiving spouse. However, due to inequitable FICA tax requirements, spouses should realign property settlements to normalize FICA tax benefits.
An issue – the potential for spousal payment recapture (deduction loss) for high-income taxpayers; payment structure during the first three years after the commencement of payments must avoid excessive “front-loading”. Otherwise, the government may disallow the deduction.
State law determines the character of property transfers, alimony, and child support. To ensure compliance with federal regulations, The Tax Practice recommends review of client settlement agreements prior to acceptance.