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Divorce Settlement and Taxes

Divorce settlements are rarely settled. One party simply acquiesces to the demands of another, to expedite the final decree and thus an agreement of divorce. However, each party must be aware that there are issues that exist outside the dissolution of the marriage, that are bound by law and applied differently between states.

One example is the Cornbleth vs. Cornbleth decision and the subsequent refinements of the original order. The issue essentially was that employee retirement plans, that were exempt from Social Security benefits could not be treated as marital property in divorce. Federal Civil Service plans (CSRS) were a prime example of this. Subsequent rulings have changed some aspects so that it can be considered marital property for New Jersey state employees while not applied in Pennsylvania. Given that Pennsylvania considers CSRS benefits as non taxable and standard pensions as taxable, it would behoove divorce participants to consider the issue in drafting agreements.

Divorces are not an end game but rather they are usually the beginning of a sequel that is often nasty and costly. Wages and IRS refunds can be attached even though the aggrieved party has fully complied with the court order. In the case of an IRS attachment, when a new marriage has occurred, the government allows an injured spouse (one who co-files income but has no obligation to their partner’s former spouse) to file a form 8379 Injured Spouse Allocation. This allows for any refund due, to be segregated from the other obligated partner and refunded to the joint return filing.

Wage attachment can be done despite the proper conduct of the paying partner, due to demands of the receiving divorcee. This is sometimes done when the payer is inconsistent with monthly payments although still making payments within the month of obligation. The attachment is then done to stabilize payment to the recipient and may add a surcharge to the obligation to cover additional administrative costs. This additional cost is generally non-recoverable although each state may view assessments differently. Again using Pennsylvania as an example; alimony and child support are non-taxable although PA law does not provide for deducting payments as an expense. Federal requirements allow for both the receipt as income and payment as a deduction.

Given the universal application of divorce/tax issues, on the federal level, and the sporadic application of laws at the state level, the issue of filing divorces across state lines is relevant. One might find that being the first to file, in a state with the best tax advantage, is the most prudent step in the entire divorce proceeding. Divorce is not a single step process and the higher the marital, property value, the more discerning one must be about the tax ramifications.

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