The way in which couples files their taxes can have significant financial impact. Because the entire divorce process can often take months or years, it’s common for divorcing couples to file taxes while still married, but living separately. Joint returns tax a married couple as if each spouse had exactly the same taxable income. Therefore, there are substantial tax savings produced by filing jointly.
Separated spouses must still file their returns as married persons if they are still married at the end of the taxable year. Couples may choose to file separately, unless they agree to file a joint return or a court has made an order directing the parties to file separately. If filing separately, the parties each will be taxed on their respective earnings separately. But they will still have to allocate income from before and after separation. Income earned before the separation date is considered community property, taxable half to each party. Income earned on and after the separation date is considered the earning spouse’s separate property.
A joint return can be filed by spouses who are separated at the end of the calendar year, so long as both intend that the return be filed as a joint return.
Both spouses must agree to file a joint return, a joint return cannot be filed against the will of either spouse. Parties who cannot agree whether to file a joint return should file separate returns before the due date. Separate returns can then be amended to a joint return any time within the statute of limitations period (generally three years). A joint return, however, cannot be amended to become two separate returns once the deadline for filing returns has passed.
As a general rule, couples who sign a joint return are each jointly and severally liable for the tax shown on that return. This includes any penalties caused as a result of the other spouse’s financial decisions.
Often one spouse is much more knowledgeable about the couple’s financials during a marriage. When the spouse who is less knowledgeable about the couple’s financials signs a joint return, he or she should insist on an indemnification agreement to protect against the risk of errors or omissions by the other spouse. This means that if there is a tax penalty as a result of one spouse’s tax error, that penalty will only apply to that spouse, not the “innocent” spouse. This agreement will only apply between the parties, it will not apply to the IRS. Therefore, the IRS is not prevented from going after either or both spouses who file a joint return.
If the IRS does go after both parties, the “innocent” party may seek enforcement of the indemnification clause, requiring the other party to pay for any tax liabilities.
If taxes are overpaid, the taxpayer is entitled to a refund. If the refund is from a joint return, and the parties separate before the refund is received, the parties must determine who is entitled to the refund, and how much. The general rule is that the refund will be allocated as if the parties had filed separately, based on the parties respective earnings. Under California law, if all of the income in the joint return was community income, the refund would be divided equally. However, if all of the income in the joint return was generated by separate property, the refund would be allocated to the owner of that separate property.
If you have questions or concerns about filing your taxes or allocating a refund from a joint tax return, schedule a free 30-minute consultation with Cage & Miles, LLP today.