Navigating High Asset Divorce Tax Issues: A Guide for Attorneys

DISCLAIMER: THE INFORMATION CONTAINED HEREIN IS SOLEY FOR EDUCATIONAL PURPOSES. IT IS NOT LEGAL ADVICE OR LEGAL AUTHORITY AND IS ONLY THE AUTHOR’S INTERPRETATION OF HIGH ASSET DIVORCE LAW.

Divorce is never an easy process, especially when high assets are involved. Apart from the emotional strain, there are complex financial and tax considerations that can significantly impact the outcome of the divorce settlement. As an attorney, understanding and effectively addressing these tax issues is crucial to ensure your client’s financial well-being during and after the divorce proceedings. In this blog, we will explore some key high asset divorce tax issues that attorneys need to address.

1. Valuation of Assets: High asset divorces often involve complex assets such as businesses, investments, real estate, and retirement accounts. Determining the fair market value of these assets is essential for equitable distribution. However, it is not just about dividing assets; it is also about considering the tax implications associated with each asset. For instance, selling certain assets may trigger capital gains taxes, which could significantly reduce the overall value received by your client.
2. Tax Consequences of Property Division: When dividing marital property, it is crucial to consider the tax consequences of each asset. Certain assets may have built-in tax liabilities that could impact their true value. For example, transferring ownership of a highly appreciated asset may result in substantial capital gains taxes when sold. For instance, suppose the husband and wife each own a business 50/50 worth $20 million, and each has a $500,000 basis. The wife no longer wants to be involved in the business and wants bought out or otherwise credited for her share. At first glance, the quick answer is she is either going to get a $10 million payout or a $10 million credit. Hold on. The payout of $10 million pursuant to 26 U.S. Code Section 1041, results in no tax for the wife as it is considered a gift between spouses for tax purposes and the husband takes the wife’s basis. So, although the husband’s real basis is now $10.5 million, he only has the basis of $1 million, which is the husband’s $500,000 basis and the wife’s $500,000 basis. The wife avoids any tax and if the husband turns around and sells the business 6 months later for the same $20 million, in Nebraska, the husband pays 20% federal and 6.64% Nebraska capital gains taxes. Although the husband bought the wife for $10 million giving him a combined $10.5 million basis, for tax interest purposes under 1041 he only has a $1 million basis making his tax on the sale $5,061,600 instead of $2,530,800 or twice the amount of tax. This needs to be considered in the division of assets and, more importantly, many judges will not consider, or for that matter, they do not understand built in capital gains. Attorneys must strategize to minimize tax consequences and maximize their client’s net worth post-divorce.
3. Alimony and Tax Implications: Alimony, also known as spousal support, is often a significant component of high asset divorces. It is essential to understand the tax implications for both the paying and receiving spouse. Prior to the Tax Cuts and Jobs Act (TCJA) of 2017, alimony payments were tax-deductible for the payer and taxable income for the recipient. However, the TCJA eliminated this deduction for divorces finalized after December 31, 2018. Attorneys must navigate these changes and structure alimony agreements accordingly to minimize tax burdens for their clients.
4. Child Support and Tax Implications: Child support payments are not tax-deductible for the payer nor considered taxable income for the recipient. However, there may be tax implications related to claiming dependents for tax purposes. Attorneys must ensure that child support agreements are structured in a tax-efficient manner considering both federal and state tax laws.
5. Qualified Domestic Relations Orders (QDROs): In high asset divorces involving retirement accounts such as 401(k)s and pensions, attorneys often need to draft QDROs to divide these assets. Mishandling QDROs can result in adverse tax consequences, including early withdrawal penalties and tax liabilities. Attorneys must work closely with financial experts to ensure QDROs are properly structured to avoid unnecessary taxes and penalties.
6. Tax Filing Status: Finally, attorneys must consider the implications of their client’s tax filing status post-divorce. Whether filing as single, head of household, or married filing separately, each status has its own tax brackets and implications. Choosing the optimal filing status can significantly impact tax liabilities and should be carefully evaluated based on each client’s unique financial situation.

In conclusion, high asset divorces present unique challenges, particularly concerning tax issues. Attorneys must possess a thorough understanding of tax laws and work closely with your accountant to effectively navigate these complexities. By addressing these tax considerations proactively, attorneys can help take advantage of some tax consequences and mitigate adverse tax consequences for their clients.

It is important to consult with a legal professional to understand how Nebraska’s specific laws and recent developments may apply to your individual case, especially with high asset divorces and those involving the family business. Laws evolve, and legal advice tailored to your situation is crucial when dealing with divorce and property division. This blog is a general discussion only and is not legal advice or legal authority.

C.G. “Dooley” Jolly attended Creighton University School of Law under a Dean’s Merit Scholarship, graduating in May 1997. He earned a Bachelor of Science degree from the University of Nebraska and graduated, cum laude, in 1994. Mr. Jolly was honorably discharged from the United States Marine Corps, as a reservist, after serving from 1986 until 1992.

Mr. Jolly’s practice is primarily in the areas of divorce and family law, with extensive experience in business and asset valuation; asset and debt division; custody/paternity; financial support; and other issues attendant to proceedings of this nature. He has trial experience in civil and criminal cases in the federal and state courts in Nebraska. He has practiced in the United States Court of Appeals (8th Cir.), the U.S. District Court of Nebraska, the Nebraska Supreme Court, the Nebraska Court of Appeals, and numerous Nebraska state district courts.

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