I recently attended the annual conference of the Association of Divorce Financial Planners. A presentation from my colleague Nancy Hetrick of Arizona highlighted something I’ve been able to achieve in my own practice – increasing the amount of money available to be divided in divorce without borrowing money. There is often a better way than dividing each asset in half.
It’s not abracadabra, just good financial planning.
Alimony payments can be used to reduce overall taxes. For example, after her divorce assume that Emily will have income that is likely to be in the 15% marginal tax bracket and her soon-to-be-ex Bill will be in the 25% marginal tax bracket. Bill pays Emily $2,000 tax deductible alimony a month for four years. Bill’s after tax cost is $1,500 because the $2,000 tax deduction will reduce his tax liability by $500 ($2,000*25%). Emily pays taxes on receipt so her income, so her after tax income is $1,700 a month. The IRS lost $200 a month ($2,400 a year). This can work, but divorcing couples need to be careful that alimony isn’t just a veiled property transfer. If it is, the IRS could unwind, tax and penalize the scheme. The highly taxed spouse will also get more value from child exemptions and that can be exchanged for additional alimony or assets.
Transferring low basis assets (such as investments or property) to the lower wage earner can often achieve similar benefits. The capital gain on assets held for more than a year is typically 15% but for some in the 10-15% ordinary tax brackets the rate, for now, is zero – that up to taxable incomes of $50,200 for the head of household filer for 2015. For example, if the couple has land worth $30,000 with a tax basis of zero and the wife’s income is only $10,000, the couple may be able to save $4,500 by transferring the land to the wife and having her sell it for needed cash.
Lastly, tax timing. Couples should ask their CDFA or CPA to assess whether divorcing before or after year end makes a difference in their tax expense for the year. It often can.
Borrowing money (by refinancing, getting a home equity loan or other source) can increase cash on hand or meet other financial goals like buying out a spouse, keeping an existing home or buying a second home. However, this approach may unwittingly cause financial difficulty in the future. Analysts and CDFAs will use projections and stress tests to see whether (and what it takes for) these options can work in both the short and long term.
Divorce Planning of Austin helps couples and individuals project and analyze their post-divorce income, expenses, asset protection needs and the potential tax impact of divorce. We save thousands of dollars with intelligently designed asset division and post-divorce financial planning.
Silicon Hills Wealth Management and Divorce Planning of Austin work with clients and their attorneys to help insure that financial accounts are divided in the most efficient manner possible. Please contact Pam Friedman, CFP®, CDFA™ at firstname.lastname@example.org.
Asset protection plans should be developed and implemented well before problems arise. Due to the fraudulent transfer laws, asset transfers that occur close in proximity to the filing of a lawsuit or bankruptcy can be interpreted by the court as a fraudulent transfer. Proper structuring of these assets is imperative please seek proper legal and tax advice prior to engaging in re-titling/structuring of any assets. Please note that laws are subject to change and can have an impact on your asset protection strategy.
Neither Silicon Hills Wealth Management nor Divorce Planning of Austin are accountants and do not provide tax advice. Please consult with your tax professional regarding your specific circumstances.
Hypothetical results are for illustrative purposes only and are not intended to represent the past or future performance of any specific investment.
Investment advisory services offered through Silicon Hills Wealth Management, LLC, a registered investment advisor.