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Protecting Assets in Divorce – Tax Implications

| Sep 3, 2014 | Divorce |

A very common error in divorce settlements is comparing pre-taxed assets to after-taxed assets or comparing assets that are immediately available to assets which are not. Consider all tax implications or you may not be receiving a fair settlement. Consult with your attorney and financial advisor.

  • Pretax vs. After tax assets: For example, if you have both a Roth IRA and a traditional IRA, the Roth may eventually be distributed without your having to pay income taxes but the traditional IRA distributions will be taxed as income. Therefore, it would be a mistake to not take these differences into account when trying to settle your case.
  • Immediately available assets vs. assets that are not immediately available: For example, if you have a traditional IRA and cash in a bank account, they are not the same in value even if the current amount in each is the identical. For example, if you have an IRA worth $100,000 and a bank account that has $100,000 in it, these two assets are not the same value. The spouse receiving the IRA will be receiving an asset with a lower current value because the IRA will be unavailable, unless the recipient pays a penalty for early distribution and any taxes due, until the recipient reaches the required age for mandatory distributions. Whereas, the cash in the bank account will be immediately available and will not be taxed since it has already been amassed with after tax dollars. Therefore, it would be a mistake to not take these differences into account when dividing assets.
  • Other issues to consider are values inherent in capital loss carryovers, charitable contribution carryovers, and passive loss carryovers. These all create complications in valuations and should be factored into any settlement.
  • If you are receiving real estate (not your residence) and it has built in capital gain, the recipient of such real estate in the divorce will be responsible to pay the capital gain upon sale. This could substantially reduce the value of the asset to the receiving spouse. Therefore, the real estate you are receiving has “pregnant gain” this should be factored into your divorce settlement and the asset valuations you use.
  • If you are receiving the marital residence and you plan to sell it sometime after the divorce, it is a common error to not take into account that there will be about an eight to ten percent loss for cost of sale (real estate commission, title insurance fees, closing costs, repairs, etc.). Therefore, you may want to consider selling the residence during the pending divorce so that the cost of sale will be divided between the parties.
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