Getting a divorce can mean big changes, not only in one’s personal life, but financially as well. Many divorcing couples fail to understand the impact of taxes after a divorce until they receive their settlement and are left with much less assets in the divorce than anticipated. It is important for couples to ensure they receive a settlement that is fair to both parties while considering how the divorce affects the couple’s taxes.
Assets, Divorce, and Taxes
Generally, the tax-free transfer rule applies to most assets that are transferred during a divorce. Most homes, cash and other assets can be transferred without affecting income taxes or gift taxes.
Once an asset is sold, capital gains taxes may be paid on anything that has increased in value since it was bought, this primarily applies to:
- real estate;
- mutual fund accounts; and
- other investments.
But only the spouse who gets the particular asset in the divorce is responsible for paying the tax. So when getting a divorce and dividing assets, couples should keep in mind any taxes owed on assets when sold.
Retirement accounts are subject to taxes as well. When a portion of a 401(k) is transferred to a spouse as part of a divorce settlement, 20 percent of it is withheld for taxes. However, this withholding can be avoided by transferring the money to another retirement account, such as an IRA. However, if the funds are transferred before the owner of the account turns 59 ½, there is still a 10 percent penalty. Some retirement plans also require a Qualified Domestic Relations Order (QDRO) in order to complete the transfer, complicating things even further.
This can all become very confusing when dividing property during the divorce process. Those getting a divorce can find legal assistance in a family law attorney.