TAXES CHANGE WHEN A SPOUSE PASSES AWAY

 

When a spouse passes away there are many things of a financial nature that the surviving partner needs to address.  One important thing that the survivor needs to do is review and revise their income tax withholding.

The death of a spouse is one of the life-changing events when you need to contact your tax professional

The tax and withholding tables for a Single filer are different than those for married taxpayers filing a joint return.  And, most important, the Standard Deduction, which most taxpayers now claim, for a Single filer is half the amount allowed for a joint filer. 

While income may go down the first year a surviving spouse files as a Single taxpayer, if he or she claims the Standard Deduction, and also claimed it when filing jointly, using 2021 as an example, deductions will be reduced by at least $12,550.  

One possible mitigation to the reduced deductions does exist.  For most of my clients reaching the $10,000 SALT limit was not a problem whether filing as Single or married.  So, if mortgage interest and excessive medical expenses or contributions are a factor, the now Single filer may be able to itemize.

You need to do, or have your tax professional do, a projection of income and deductions for the first year as a Single filer and compare the resulting tax liability to current withholding.  You will probably need to file new Form W-4s (or, if applicable, W-4Vs) with your employer, pension provider or the Social Security Administration.  Or you may need to begin making quarterly estimated tax payments.

This applies to both your federal and state withholding.

TTFN

SOME TRULY BASIC TAX BASICS

Let me review some truly basic tax “stuff” – things that I would have thought everyone knows, but still get questions about.

(1) Your filing status for the tax year is determined by your status on the last day of the year – December 31^st. 

a. If you are legally married on December 31, 2019, even if your wedding was December 30, you must file your 2019 tax returns for as either Married Filing Jointly or Married Filing Separately. 

b. If you are legally divorced on December 31, 2019, you must file your 2019 tax returns as either Single or Head of Household.

(2) If a person is alive for at least one day of the year he/she is considered for tax purposes to be alive for the entire year, and receives all the appropriate tax benefits, whether a dependent or an independent filer, for the entire year. 

a. If your spouse passes away at any time during the year, including January 1st, you can file as Married Filing Joint for that year. 

b. If a child is born at any time during the year, including December 31st, you can claim that child as a dependent, with all the applicable tax benefits (Child Tax Credit, Earned Income Credit), for that year.  

c. If a child is born on May 1st and passes away on May 2nd you can claim the child as a dependent for that year.

(3) You will only receive a tax benefit for an expense or action that qualifies as an itemized deduction if you itemize your deductions by filing a Schedule A – if your total itemized deductions exceed the applicable Standard Deduction amount for your filing status and situation.

Charities advertise that you can get a tax deduction for donating your car to their organization.  This statement is true – but only if you are able to itemize. 

If you donate a car with a deductible value of $2,000 to, for example, Kars 4 Kids, and you are in the 22% federal tax bracket and -

a. you itemize on Schedule A, and the full amount of the $2,000 deduction is in excess of your Standard Deduction, you will put $440 in your pocket (plus any state tax savings).   $2,000 x 22% = $440.

b. your total allowable itemized deductions, including the $2,000 for the car, is $11,000 and your Standard Deduction is $12,200 (the Standard Deduction amount for a Single filer for 2019) you put absolutely nothing in your pocket – you get no tax benefit from donating your car to the charity.  $11,000 less $12,200 = $0.00.

c. your total allowable itemized deductions, including the $2,000 for the car, is $13,000 and your Standard Deduction is $12,200 you out only $176 in your pocket (plus any state tax savings).  $13,000 less $12,200 = $800 x 22% = $176.

The above item (3) is actually inspired by a true story from my practice.  Years ago, a client came to see me and was happy as a pig in reality tv.  She said she had donated her car to charity and was told she would get a big tax deduction.  She could not itemize, even the car deduction, and got zip.  Clearly, she was not pleased.

TTFN

  

ANOTHER SOMETHING TO THINK ABOUT

In a recent post from Jason Dinesen - “Iowa Taxes: Married Filing Separately on Combined Return vs. Married Filing Separately on Separate Returns” – Jason talks about the unique filing choices on the Iowa state income tax return.

“A married couple in Iowa can choose from one of 3 filing statuses:

1. Married filing jointly

2. Married filing separately on a combined return

3. Married filing separately on separate returns

Married filing jointly is typically used only in cases where one spouse has income and the other spouse has no income. Otherwise, one of the ‘separate’ statuses will almost always produce better results. This is because Iowa has just one tax bracket, which applies to all filing statuses. Filing separately allows spouses to split their income up and get taxed separately, thus producing a lower tax liability than filing jointly.”

I like this.

I recall that a similar situation – filing separately on one return - also existed on the New York state income tax return back when I first started out. 

This idea, including one tax bracket for all taxpayers, should be applied to the federal return.

I believe that the US Tax Code should create neither a “marriage tax penalty” nor a “marriage tax benefit”.

In my tax reform plan the Married Filing Separately status would permit a married couple, whether living together or not, to file one return as if they were filing two individual returns as Single. All of the exclusions from income, deductions and credits that are available to a Single filer would be available to each spouse under the Married Filing Separate status.  As there would be only one tax schedule for all taxpayers, regardless of filing status, the Tax Rate Schedule (and Tax Table) for Married Filing Separately would be exactly the same as that for Single.

Like Iowa has, there should be a special 1040 and 1040A form that would allow both spouses to file separately on one return. Married taxpayers would still have the option of filing separately on two separately filed returns, for the reason outlined in Jason’s post – creating separate liability.

I am not sure if instead of 3 filing categories for couples there should be only 2 – the equivalent of Married Filing Separately on a combined return or on separate returns.  Perhaps there should be no Married Filing Joint category, and spouses should be required to split their individual incomes and deductions to calculate the tax. 

If there were a Married Filing Joint status it could provide for double of everything available to the Single status. For example, if, as under current law, a Single filer can deduct up to $3,000 in net capital losses per year, a married couple filing jointly would be able to deduct up to $6,000. The standard deduction for Married Filing Joint would remain twice that for Single.  This would provide a “marriage tax benefit” for couples with only one earning (you notice I did not say “working”) spouse or spouses with substantially disproportionate incomes and deductions.   

Or perhaps the net taxable income on a Married Filing Joint return would be divided by two, the tax determined from either table or rate schedule on this half of the combined income, and then multiply that tax amount by two. This method assumes that income earned by and deductions allowed for the couple combined apply equally to each spouse if they had filed separately.  John and Jane Q Taxpayer file a joint return. The net taxable income on the return is $100,000. The tax is taken from the tables is based on $50,000 of income. If the tax on $50,000 is $7,500, then the tax liability on the joint return is $15,000.

I expect there would be some issues with “community property” states.  However I have no knowledge of or experience with community property states, nor do I want any, so I cannot properly address these issues.

There would be no separate status or tax rate schedule for Head of Household.  The tax benefits currently provided by the Head of Household and Qualifying Widow(er) status would be replaced by an either an increased dependent personal exemption or dependent tax credit.  If a dependent exemption is used it would be much greater than the personal exemption allowed for taxpayer and spouse.  If a dependent credit is allowed then there would be no personal exemptions for dependents.

This is certainly something that requires some serious thought and discussion.

So what do you think?

TTFN

 

 

 

 

 

 

 

 

SAME-SEX MARRIAGE AND THE 2013 NJ-1040

The “What’s New” page in the NJ-1040 instruction booklet, which I referenced yesterday, does not make specific mention of the tax treatment of same-sex married couples.

The only mention I could find of “same-sex marriage” in a quick review of the booklet was in the section explaining Filing Status -

“Any reference in this booklet to a spouse also refers to a spouse that entered into a valid same-sex marriage in another state or foreign nation and a partner in a civil union (CU) recognized under New Jersey law.”

The wording is a bit odd, and I expect that it also applies to a “valid same-sex marriage in New Jersey”, since NJ now apparently allows same-sex marriage - due to a state court's September 27 order that the state must allow same-sex couples to marry and the New Jersey Supreme Court’s denial of the Christie Administration’s request to temporarily prevent same-sex marriages.

So it appears that for the 2013 NJ-1040 legally married same sex couples must file their state tax return as married – either filing joint or separate.

I will be attending the NJ chapter of NATP’s annual “Famous State Tax Seminar” this coming Saturday, and I expect this issue will be addressed at the seminar.  I will report on the event here at TWTP on Monday.

TTFN

THE DEATH OF DOMA

I was watching Ellen DeGeneres’s talk show while having a late breakfast at the County Café in Beach Lake yesterday morning when the program was interrupted to report on the Supreme Court decision on the Defense of Marriage Act (DOMA).  An odd coincidence, don’t you think?

As fellow tax-blogger Jason Dinesen, EA, who had blogged extensively on same-sex tax issues, reported at DINESEN TAX TIMES – “DOMA Ruled Unconstitutional”.

TAXGIRL Kelly Phillips Erb explains in her announcement of the decision (“Supreme Court Rules DOMA Unconstitutional – And It Was a Tax Case”) –

“. . . it wasn’t so much about the individual rights of folks to marry but the rights of states to write their own laws defining marriage”.

The decision did not say that same-sex marriages should be legal, or that same-sex couples have a legal right to marry.  It says that the federal government has no right to deny benefits to same-sex individuals who have married, and reside, in a state that has legalized same-sex marriage. 

What is unclear is what happens if a couple that was legally married in a state that has legalized same-sex marriage moves to a state that has not.

As with anything else, I first look at the decision from a federal tax point of view.  How will it affect my 1040 clients? 

When it comes to the federal Estate Tax the decision is a true victory that will benefit same-sex couples.  It allows same-sex couples who are legally married and reside in states that permit same-sex marriage to be able to take advantage of the Estate Tax unlimited “marital deduction”.

Kelly’s post refers to an estate tax example that was cited in the decision - 

“Edith Windsor, a resident of New York, married Thea Spyer, her partner of 40 years, and that marriage was recognized by the state of New York. However, Spyder’s estate was required to pay more than $363,000 in federal estate taxes at her death because the federal government did not recognize same sex marriages.”

But what about the federal income tax?  As a result of the decision same-sex couples, again who are legally married and reside in states that permit same-sex marriage, will be able to, as Jason points out in his post, “prepare their federal and state tax returns as a married couple, using married person tax law, same as any other married couple”.

This will very likely generate income for the US Treasury.  Jason explains -

“Will all same-sex couples pay less in income taxes because of this ruling? NO, not necessarily. In my practice, 2/3 of my clients who are in same-sex marriages will actually PAY MORE in income taxes by filing as a married couple rather than as two single people.”

Why?  Because of the “marriage penalty”.  While there will be some same-sex couples who will now be able to take advantage of the “marriage benefit” on their 1040s, I do believe that more often than not a same-sex couple consists of two working “spouses” – more so than “traditional” married couples – and the couple will now end up paying much more in federal income tax than when they filed as two single individuals.

In my own practice I do not expect this decision to really have any effect.  Most of my clients are from New Jersey.  While NJ has provided for “domestic partnerships” and “civil unions”, it has not gone “all the way” and legalized actual same-sex “marriages” - and I expect the decision applies only to what is identified under state law as “marriage”.  I do have some New York clients, but none are, or will become, same-sex couples married under NY state law – and I do not accept any new 1040 clients.

Russ Fox has some advice for same-sex couples who have extended their 2012 returns and will now be able to file as married at his blog TAXABLE TALK.  He posts “DOMA Done – But Don’t File That Joint Return Just Yet”, explaining -

“I suspect it will be two months (maybe more) before the IRS is ready to accept such returns.”

Although, to be honest, I am not sure why – unless the IRS computers can identify the sex of files from the Social Security numbers and will not accept same-sex married returns.

To download the decision click here.

As an aside – I do believe that television shows like WILL AND GRACE and MODERN FAMILY are partially responsible for the widespread acceptance of same-sex marriage and for this decision being possible.  Television can change the world!

TTFN

MY TAKE ON THE DOMA SAME-SEX MARRIAGE ISSUE

While some states may permit same-sex marriages, the IRS does not permit these couples to file federal tax returns as married.  This is because the 1996 Defense of Marriage Act (DOMA) defines marriage as the legal union of one man and one woman for federal and inter-state recognition purposes in the United States.

Recent court cases, the most recent in the Second U.S. Circuit Court of Appeals, have found that DOMA’s definition of marriage to be unconstitutional.  If the issue goes to the US Supreme Court and the lower court decisions are upheld this would open the door for same-sex couples legally married in states that permit same-sex marriages to be able to file federal income tax returns as married, either joint or separate. 

I question why same-sex couples would want to be able to file federal returns as married couples, and be hit with the infamous “marriage penalty”.

The Tax Foundation reports that about 67% of married couples filing federal returns are dual-income working couples.  I expect at least the same percentage, if not a higher one, would apply to same-sex couples.  It is dual-income couples who are hit with the marriage penalty. 

Despite some attempt by the “Bush tax cuts” to alleviate the marriage penalty for lower-income couples, it is very much alive, and will be more so if the “Bush” cuts expire.  The marriage penalty can be very costly, especially because married couples who choose to file separately are penalized for doing so in many circumstances, and will pay more tax, sometimes much more, than if they just “lived together” as two Single-filers.

The members of a same-sex couple legally married in an accommodating state are currently each allowed to file as Single for federal purposes, or, more better, one as Single and one as Head of Household, and take full advantage of all the deductions, credits, and phase-out ranges that apply to Single or Head of Household filers.

I can think of many “traditional” married couples who would be as happy as pigs in reality tv to be able to file tax returns as two Singles or one Single and one Head of Household.

I expect that the real reason for pursuing federal acceptance of same-sex marriages lies with the federal estate tax and the unlimited marital deduction, which would apply to a much smaller number of such couples, and other beneficiary issues.

TTFN   

THE GAY DIVORCEE

Thanks to BO’s recent “endorsement” of same-sex marriage the internet is a-BUZZ with the topic.  This includes the “tax blogosphere”.

 

A few of my fellow tax-bloggers cover the tax aspects of same-sex marriage extensively.

 

Peter J Reilly, author of the blog “Passive Activities” for FORBES.COM (where I have been a frequent guest-poster), writes frequently on the topic.  Click here for his latest gay-marriage post.

 

Also Enrolled Agent Jason Dinesen, who writes “Dinesen Tax Times”.  Jason posts every Monday about gay marriage and taxes.  Click here for his latest related post.

 

Currently the federal government, and the IRS, does not recognize same-sex marriages, as per the Defense of Marriage Act.  From an income tax point of view I expect most same-sex couples would not be better off if they were offered the same filing options as “traditional” married couples.  However there would be potential for substantial benefit when it comes to the federal estate tax.

 

I have very few clients who I either know, or suspect, are a gay couple.  Only one couple would benefit from being able to file tax returns as married.  With the others, both partners are employed and would probably pay more tax, thanks to the “marriage penalty”, by having to file as married taxpayers.

 

In states that recognize same-sex marriages, and permit gay couples to file as married, the fact that these taxpayers cannot file the same way federally causes extra work for the tax preparer, but also generates corresponding additional income.  I have not yet had to deal with this situation in my practice.

I am not opposed to the legal recognition of gay marriage on the federal or state level.  I am also not an active advocate.  I would not campaign against the issue, nor would I campaign for passage of supportive legislation.  If it happens I would be fine with it - but it is not a priority issue for me. 

 

I expect that I would leave the issue to the individual states, and would allow same-sex couples whose tax home is in a state that recognizes the marriage to file federal returns as married couples.         

 

TTFN

SOME 1040 BASICS

Over the years I have been, on occasion, asked about “filing as married for half the year” or “claiming my son for half the year”.

Below is a review of basic tax law, a part of Taxes 101, which addresses these types of questions.

(1)  Your filing status for the year is determined by your marital status on the last day of the year.  If you are legally married on December 31^st you are considered for tax purposes to have been married for the entire year.  You must file your return for that year as either Married Filing Joint or Married Filing Separate (or possibly, in certain situations, Head of Household). 

Conversely, if you are not legally married on December 31^st, for example your divorce is final in December, you are considered for tax purposes to have not been married for the entire year.  You will file your return for that year as either Single or Head of Household.

(2)  If a person is alive for at least one day of the year he/she is considered for tax purposes to be alive for the entire year, and receives all the appropriate tax benefits, whether a dependent or an independent filer, for the entire year.

If your spouse goes on to his/her final audit at any time during the year, including January 1^st, you can file as Married Filing Joint for that year.

If a child is born at any time during the year, including December 31^st, you can claim that child as a dependent, with all the applicable tax benefits (Child Tax Credit, Earned Income Credit), for that year.

If, God forbid, a child is born on May 1^st and passes away on May 2^nd you can claim the child as a dependent for that year.

This suggests some very unique tax planning.

(1)  The marriage tax penalty is alive and well in our Tax Code.  In many cases a married couple will pay more federal, and perhaps state, income tax filing as married then if they could file two Single returns.  Filing separately could save some tax, but it is still generally not as beneficial as filing two Single returns.

It is “more better” in most cases to tie the knot early in the year instead of in the fall or winter.  As long as you are going to pay the price of being married for the entire year you might as well enjoy all the benefits (?) of marriage for as much of the year as you can.

And, if you are in the process of a divorce, it is “more better” in most cases to complete the process in November or December of 2012 instead of waiting till January or February of 2013.  This way you will be able to file as Single or Head of Household for 2012.

(2)  If your wife is pregnant and due soon – it would be to your benefit tax wise if the child was born before the ball dropped at Times Square and the new year was rung in.  If the child is born at 8PM on December 31, 2011, instead of 6AM on January 1, 2012, you get all of the associated tax benefits of a dependent child on your 2011 Form 1040. 

I am, however, not quite sure exactly what you can do to achieve this tax planning goal.  Some websites suggest eating spicy food, going for a walk or marching up stairs, or having sex to induce labor.   

TTFN

THE NEW TAX CODE - FILING STATUS

As the Flach Tax Reform Commission, consisting of Robert D Flach, meets to rewrite the US Tax Code we begin with “everything is taxable and nothing is deductible”. In this series of posts I will talk about what items of income I would exclude from taxation and what deductions, and credits (if any), I would allow in our new fair, simple, and consistent Tax Code – the “excepts” – as well as filing status and tax brackets rules.

I will not necessarily be working my way down the Pages of the 1040 in order – dealing with items of income before deductions. I will be skipping all over the place. But when the series is completed I will organize the posts in proper order in a published report.

As I said in the initial post of the series - Your comments on my recommendations are welcomed and encouraged. I especially want to hear from fellow tax professionals.

OK – let’s begin. Just coincidentally we begin with the topic of Filing Status.

Currently there are 5 choices for a return’s filing status, each with its own rules and regulations –

1. Single
2. Married Filing Joint
3. Married Filing Separately
4. Head of Household
5. Qualifying Widow(er)

In the new Tax Code I would reduce this to 3 –

1. Single
2. Married Filing Joint
3. Married Filing Separately

The new Code would create neither a “marriage tax penalty” nor, for the most part, a “marriage tax benefit”.

The Married Filing Separately status would permit a married couple, whether living together or not, to file as if they were filing two individual returns as Single. All of the exclusions from income, deductions and credits that are available to a Single filer would be available to the Married Filing Separate status. The Tax Rate Schedule (and Tax Table) for Married Filing Separately would be exactly the same as that for Single. As per current law this status would be elective, and two-earning families will be able to file a joint return if they so choose.

I would create a special 2-columned 1040 and 1040A form that would allow both spouses to file separately on one return. Married taxpayers would still have the option of filing separately on two separately filed returns.

The Married Filing Joint status would provide for double of everything available to the Single status. For example, if, as under current law, a Single filer can deduct up to $3,000 in net capital losses per year, a married couple filing jointly would be able to deduct up to $6,000. The standard deduction for Married Filing Joint would be twice that for Single, as it currently is under the extended “Bush” tax cuts. It would be as if the separate incomes and deductions allowed on the new 2-column 1040 for separate filers were combined in one column.

The Married Filing Joint status would provide a marriage tax benefit for most couples with only one working spouse, but I would support a benefit for couples where one spouse is a “stay-at-home” parent.

The tax benefits currently provided by the Head of Household and Qualifying Widow(er) status would be replaced by an increased either dependent personal exemption or dependent tax credit (I have not yet decided which) that would combine the current personal exemption for dependents and the Child Tax Credit. If a dependent exemption is used it would be much greater than the personal exemption allowed for taxpayer and spouse. If a dependent credit is allowed then there would be no personal exemptions for dependents.

I like the idea of having only one Tax Rate Schedule (and Tax Table) for all taxpayers, regardless of filing status. In the case of Married Filing Joint perhaps the net taxable income would be divided by two, the tax determined from either table or rate schedule on this half of the combined income, and then multiply that tax amount by two. This method assumes that income earned by and deductions allowed for the couple combined apply equally to each spouse if they had filed separately.

John and Jane Q Taxpayer file a joint return. The net taxable income on the return is $100,000. The tax is taken from the tables is based on $50,000 of income. If the tax on $50,000 is $5,000, then the tax liability on the joint return is $10,000 (the 10% tax rate on this level of income is used only as an example for simplicity).

TTFN