Same-Sex Marriage, Community Property, And Multi-State Income — Part 2

Here in Part 2, I’ll explore what happens when a same-sex couple in a community property state moves to a non-community property state such as Iowa during the middle of the year.

I have encountered this issue several times in my practice. What follows is a composite of some of these encounters. Please note that “Angie and Alice,” the “client” used in the example below, are fictional characters, not real clients of mine.

The Setup

Angie and Alice are in a same-sex marriage in California. They moved to Iowa in September. Both states recognize their marriage (although I believe that most of this scenario would be the same even if they moved to a state that didn’t recognize their marriage).

I warn you, this is going to get deep. Consider yourself warned!

Here we go:

Wages

Alice earned $56,000 of W-2 income while a resident of California. She had $11,000 of federal taxes and $4,000 of California taxes withheld from this income.

Angie earned $32,000 of W-2 income in Iowa. She had $4,000 of federal taxes and $2,000 of Iowa taxes withheld from this income.

OUTCOME: The California income and withholding must be split 50/50 between Angie and Alice.

Because Iowa is not a community property state, Angie will report 100% of her Iowa wages and associated withholding on her return.

End result: Angie reports $60,000 of income ($28,000 + $32,000) and Alice reports $28,000 of income.

Dividends

Angie earned dividends during the year, on a separate brokerage account in her name only. The statement from the investment company showed $400 of dividends earned while she resided in California, and $200of dividends earned while she resided in Iowa. (For the sake of simplicity, we’ll assume that all dividends are ordinary dividends taxed as ordinary income.)

OUTCOME: In California, dividends, interest and rents from separately held property is NOT community property and is reported 100% by the spouse earning the income. The original version of this story, as published on 5/15, had this wrong. Thanks to reader Ray for catching my mistake (see the Comment section below). So Angie reports all $600 of the dividends on her tax return, including the dividends earned while she resided in California.

Pension Withdrawal

After she moved to Iowa, Alice withdrew $40,000 from a retirement account. $8,000 of federal taxes and $2,000 of Iowa taxes were withheld.

OUTCOME: This is not community property because the withdrawal happened in Iowa. Alice has $40,000 of taxable income to report. She’ll get credit for the full $8,000 of federal taxes withheld and can take an itemized deduction for the $2,000 of Iowa taxes withheld.

Unemployment

Angie was unemployed while living in California. She received $16,000 if unemployment benefits, which ceased upon moving to Iowa. Federal taxes of $1,600 were withheld from these benefits.

OUTCOME: This is community property. Angie and Alice will each report $8,000 of unemployment income and $800 of associated federal withholding on their federal tax returns.

Mortgage

Angie and Alice paid $14,000 on a mortgage for their home when they lived in California. They sold the home at the same time they moved to Iowa. (They sold it at a loss, so no capital gain to worry about.) They paid $4,000 of property taxes on this house. Angie and Alice owned the home jointly.

They also paid $2,000 of interest on their new home in Iowa. Angie and Alice agree that Angie made 100% of this payment. They made no property tax payments in Iowa in 2012.

OUTCOME: The $14,000 of California interest and $4,000 of California property taxes are split 50/50. The $2,000 of Iowa interest is claimed 100% by Angie. So Angie will show a $9,000 mortgage interest deduction, while Alice will show a $7,000 deduction. Note that if the California property was owned entirely by Angie or Alice separately, then only that spouse would claim the deduction.

Charitable Contributions

Angie and Alice made $500 of cash charitable contributions while residing in California. The contributions were made from joint, community funds.

OUTCOME: This is community property. Angie and Alice will each claim a $250 charitable contribution deduction on their federal tax returns.

End Results (using 2012 exemption amounts and tax tables):

[table]Item,Angie,Alice
Wages,$60000,28000
401(k) Withdrawal,$0,$40000
Dividends,$600,$0
Unemployment,$8000,$8000
AGI,$68600,$76000
Less: State Withholding,$4000,$4000
Less: Property Taxes,$2000,$2000
Less: Mortgage Interest,$9000,$7000
Less: Charitable Contributions,$250,$250
Less: Personal exemption,$3800,$3800
TAXABLE INCOME,$49550,$58950
TAX (Single Filing Status),$8424,$10774
Early Withdrawal Penalty,$0,$4000
NET TAX,$8424,$14774
Less: Federal Withholding,$10300,$14300
REFUND,$1876, $474 OWED[/table]

 Total refund; $1,402

Here’s how it would look if they didn’t apply community property rules. Angie and Alice would each claim whatever they were entitled to claim, without having to split anything:

[table]Item,Angie,Alice
Wages,$32000,$56000
401(k) Withdrawal,$0,$40000
Dividends,$600,$0
Unemployment,$16000,0
AGI,$48600,$96000
Less: State Withholding,$2000,$6000
Less: Property Taxes,$2000,$2000*
Less: Mortgage Interest,$9000,$7000
Less: Charitable Contribs.,$250,$250*
Less: Personal Exemption,$3800,$3800
TAXABLE INCOME,$31550,$76950
TAX (SINGLE FILING STATUS),$2951,$15274
Early Withdrawal Penalty,$0,$4000
NET TAX,$4301,$19274
Less: Federal Withholding,$5600,$19000
REFUND,$1299,$274 OWED[/table]

Total refund: $1,025

*-Even though we’re not applying community property laws in this table, the California mortgage interest and property taxes should be split 50/50 barring any agreement to the contrary. The charitable contributions were made jointly out of joint funds and thus should be split 50/50 in all circumstances.

You’re a brave soul if you made it this far!

This is just the federal returns. In Part 3, I’ll explore how to handle the “mock” federal return and the state returns.

 

“This blog post, along with comments that may follow, should not be considered tax advice. Before you make final tax or financial decisions, please secure a professional tax advisor to give you advice about your unique situation. To secure Jason as your accountant, please click on the ‘Services’ link at the top of the page.”