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Divorce and taxes: 5 things you need to know

Divorce can be an emotional process, but it can also severely strain your financial future if you make mistakes during property division. Mistakes can lead to costly errors, particularly with regard to taxes.

Seemingly minor decisions can have tax implications now and in the future. With help from an experienced divorce attorney, you can avoid tax penalties that will impact your share of the property settlement.

While there are many tax-related issues to consider during a divorce, below are five that deserve extra attention. 

  1. Property settlements are tax-free, if you meet the requirements - According to Section 1040 of the IRS tax code, there is no tax to either party on property settlements -- if you meet the requirements listed Section 1041 or 2516. Divorcing couples with high-value assets often are subject to income of gift taxes. In either case, there are also future property taxes to consider.
  2. Property transfers are not taxed for one year after the marriage ends - Section 1041 of the tax code states that property transfers that occur within one year of the marriage ending are "incident to the divorce," making them tax free. Transfers after that time frame may or may not be taxed, but are subject to IRS examination.
  3. Business division can cause tax issues - If divorcing spouses have a business, there are several ways it can be divided. If one spouse chooses to buy out the other, it might be considered a taxable sale or a tax-free property division, depending on the circumstances.
  4. Retirement accounts may trigger taxes - They may be tax-free now, but retirement accounts will be taxed when they start paying out, which should be taken into consideration. Divorcing couples may also need a Qualified Domestic Relations Order (QDRO) to avoid immediate taxation on 401(k)s.
  5. Unlike child support, alimony has tax implications - It would be incorrect to assume that alimony, or spousal support, is not subject to tax. In reality, alimony is tax-deductible for the paying spouse and taxable income for the receiving spouse.

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