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Life After DOMA: A History of Marriage in the Tax Code

One of my special research projects has been to research the history of marriage in the U.S. Tax Code.

I started this project nearly 3 years ago. Around this time, my practice became heavily involved in helping couples in same-gender marriages navigate the tax complexities they faced when the Defense of Marriage Act existed.

A common theme in the media and among clients was (and still is) that marriage will “always” result in bigger refunds at tax time. This simply is not true.

I knew about the so-called “marriage penalty” and how, historically, approximately 50% of married couples will see their tax liability increase as a result of getting married.

But I didn’t know why there was a marriage penalty. I don’t like not knowing why.

So I set out to find out.

Three years later, I’m still researching but have created a draft manuscript and have more than 4,000 words written on a lengthy essay about the history of marriage in the tax code.

Over the months to come — okay, probably the years to come — I’ll be sharing parts of this manuscript. It’s an ongoing project and I don’t know yet how often I’ll be posting parts of it here. I also don’t know when it will be finished or what the finished product will look like.

But I think it’s fascinating stuff, so I have to share it. Stay tuned.

Same-Sex Marriage and Amending Prior-Year Returns

On Monday I wrote about a real scenario I have encountered, regarding adoption credit carryforwards. I asked three questions in that post and only answered two of them. The third question was: if Angie (the fictional character I used in my example) amends her 2012 return, would she have to file that amended return as a married person and pay back the adoption credit she had claimed?

A broader way of asking the question is: if someone who’s in a same-sex marriage amends a prior-year return that they had previously filed as a single person due to the Defense of Marriage Act, must that amended return show a filing status of married?

The answer is: I’m not sure.

The IRS, in Revenue Ruling 2013-17, says the following regarding any return filed after September 16, 2013:

If an affected taxpayer files an original return, amended return, adjusted return, or claim for credit or refund in reliance on this revenue ruling, all items required to be reported on the return or claim that are affected by the marital status of the taxpayer must be adjusted to be consistent with the marital status reported on the return or claim.

At the end of April, I received an alert from PPC (who I use for most of my tax research):

For (original) returns filed before 9/16/13, legally married same-sex couples can file amended returns to change their filing status to married filing separate or married filing jointly. However, they are not required to change their filing status on a prior return, even if they amend that return for another reason. Either way, their amended return must be consistent with the filing status they have chosen. News Release IR-2014-56.

The source was a news release from the IRS. News Release IR-2014-56 is actually a news release that talked about how many tax returns had been filed through April 18th. The part about same-sex couples was tacked on to the news release, and says:

For returns originally filed before Sept. 16, 2013, legally married same sex couples have the option of filing amended returns to change their filing status to married filing separately or married filing jointly. But they are not required to change their filing status on a prior return, even if they amend that return for another reason. In either case, their amended return must be consistent with the filing status they have chosen.

I’ll admit to still being confused, but here’s what I think it means:

  • Using Angie from my previous post, if she amends her 2012 tax return for some reason other than changing the adoption credit, she could still use a “single” filing status and keep the adoption credit.
  • For same-sex couples in general, if they find something on a prior-year “single person” tax return that needs changed, they can amend and leave their filing status as single if they want.

What’s less clear is, what if the item being changed relates directly to being married? Examples:

  • If Angie amends to make a change to the adoption credit, would she need to file as married? I almost think she would, because it was a second-parent adoption. Therefore any future changes to the calculation of the credit would need to take marriage into account.
  • If a taxpayer amends because of something related to being married, such as having been taxed on their spouse’s health insurance premiums, would that amended return need to be filed as married? I think it would be.

Prior-Year Adoption Credits and Same-Sex Marriage

Scenario: Angie and Alice are in a same-sex marriage. In 2012, Alice went through the adoption process to become the parent of Angie’s child. Because of the Defense of Marriage Act, Alice properly filed her 2012 tax return as a single person … and claimed the adoption credit for adopting Angie’s child.

Questions:

  1. After the repeal of DOMA, Angie and Alice’s marriage is recognized by the federal government back to the beginning of their marriage. So Alice’s adoption was a “second-parent” adoption. Second-parent adoptions are not eligible for the adoption credit. Will the IRS come after Angie and Alice on this?
  2. Alice’s 2012 tax return was such that she had an adoption credit carryforward. Can this carryforward be used on her 2013 joint return with Angie, considering that the adoption is now a second-parent adoption?
  3. What if Alice finds something that she needs to amend on her 2012 tax return? Will she need to change her 2012 filing status to “married” and pay back the adoption credit on that amended return, even if she’s amending for some other reason?

ONE: We know that the IRS will honor the filing status used on tax returns filed prior to September 61, 2013. See Revenue Ruling 2013-17. Angie properly filed her 2012 tax return as a single person, so there is no danger of the IRS challenging the adoption credit claim.

Additionally, let’s look at the wording of the Internal Revenue Code regarding the adoption credit. According to IRC Section 36C(d)(1)(C), qualified adoption expenses are expenses:

(W)hich are not expenses in connection with the adoption by an individual of a child who is the child of such individual’s spouse

The Defense of Marriage Act specifically said that the term “spouse” could only refer to couples in opposite-sex relationships. Angie properly filed her 2012 tax return based on the law of the land at the time. Angie and Alice were considered legal strangers at the time, so the adoption was not a second-parent adoption.

Which answers question two: I believe the carryforward can be used on Angie and Alice’s joint 2013 tax return.

Number three is worthy of a blog post of its own, which I’ll have on Wednesday.

Life After DOMA: Estate Tax

I talk a lot on this blog about the income tax implications to same-sex married couples of the Defense of Marriage Act being struck down.

But like a lot of folks, I tend to gloss over the estate tax implications because estate tax seems to affect so few people.

Still, it’s important to reflect on the estate tax as it relates to same-sex married couples in this post-DOMA world.

What is Estate Tax?

When a person dies, their estate may be subject to estate tax if the value of the things they own (cash in the bank, the value of their property, etc.) totals more than the estate tax exemption amount. For 2014, the exemption amount is $5.34 million.

Estates with a value above $5.34 million are subject to estate tax.

There’s an exception for married couples, referred to as the “unlimited marital exemption.” If the estate passes to a surviving spouse, no estate tax is owed, regardless of the value of the estate.

Implications for Same-Sex Married Couples

When DOMA existed, the unlimited marital exemption didn’t apply because the federal government didn’t recognize same-sex marriage.

So for couples whose estate was large enough, estate tax was a big problem.

Often Glossed Over

I’m as guilty as anyone of glossing over the estate tax. I can’t fathom having $50,000 of assets, let alone $5 million. The vast majority of people will never need to worry about the estate tax.

But it’s a mistake to completely ignore estate tax, especially when we talk about the post-DOMA landscape. Because if estate tax does apply to someone, it’s a big tax hit.

It’s also important to talk about estate tax within the context of DOMA because the DOMA case — Windsor v. United States — was an estate tax case.

“Windsor” is Edie Windsor. Her spouse died in 2009 and had an estate large enough to be subject to estate tax. The estate passed to Edie, but because of DOMA, the marital exemption didn’t apply. Edie Windsor paid $363,000 of estate tax and then sued to get it back. That led to the historic Supreme Court case that struck down DOMA last June.

Life After DOMA: Gift Tax

When we talk about taxes in light of the U.S. Supreme Court striking down the Defense of Marriage Act, the conversation is always around income taxes, and sometimes FICA taxes.

But there are two other types of taxes out there affected by the DOMA ruling: gift tax and estate tax.

Gift Tax

I find that most people have never heard of gift tax. Here’s what it is:

Tax law says you can give up to $14,000 of gifts to any one person during the year. If you give more than $14,000 of gifts to one person, you must file a gift tax return and either use part of your “lifetime credit” or pay the gift tax. (A further discussion beyond this is above the scope of this blog post.)

Note that gift tax is paid by the giver, not by the person who received the gift.

Spousal Exception

No gift tax is owed on gifts given to spouses. You can give an unlimited amount of gifts to your spouse without any worries about gift tax.

For couples in same-gender marriages, gift tax could have been a problem before DOMA was struck down, because DOMA prohibited the federal government from recognizing same-gender marriages.

What is a Gift?

It’s not just something you wrap up with a bow and put under the Christmas tree for someone at Christmastime.

With gift tax, we’re often talking about property transfers.

Example 1:

Alex and Ethel are married. Alex owns a house worth $100,000. For purposes of this example, let’s assume that there’s no mortgage on the property. Alex puts Ethel’s name on the title to the property. Under tax law, Alex is considered to have made a $50,000 gift to Ethel. But because spouses can give unlimited amounts of gifts to each other, gift tax doesn’t apply.

Example 2:

Same as Example 1, except Alex and Ethel aren’t married. In this case, Alex is considered to have made a $50,000 gift to Ethel, and Alex would need to file a gift tax return and either use part of his lifetime credit or pay gift tax on the transfer. 

When DOMA existed, Example 2 applied to same-sex married couples. Now that DOMA is gone, same-sex married couples fall under Example 1.

I Was On WHO-TV Last Night, Talking About Same-Gender Marriage

I took part in an interview yesterday with WHO-TV where one of my clients was also interviewed. My client is in a same-gender marriage, and the topic was how this is the first year same-gender couples can file federal taxes as married.

Here’s a link to the WHO website where you can read their article and view the video.

But Seriously — How Do Taxes Work If You’re Married to More than One Person?

ID-100207232A few weeks ago I wrote about a ruling by the North Dakota Attorney General that makes it possible for someone to be married to more than one person in two different states.

To recap, the Attorney General’s ruling said:

  1. If someone enters into a same-sex marriage in a state where it’s legal, and
  2. Then separates from their same-sex spouse but doesn’t get a divorce, and then
  3. Moves to North Dakota and wants to enter into an opposite-sex marriage …
  4. This is legal to do in North Dakota because North Dakota’s constitution and state laws prohibit same-sex marriage. So it’s as if the same-sex marriage never happened, and the person can enter into the “new” marriage in North Dakota with no issues.

Or at least, no issues in North Dakota.

This is a real scenario because the AG’s guidance was in response to a specific question from a county recorder.

How would taxes work under this scenario?

I have researched but found no formal guidance, so this is just my opinion:

  1. Under federal tax law, the original same-sex marriage would still be valid because the person never got a divorce, so …
  2. I think this person would need to file their federal taxes as married with their “original” same-sex spouse. (If kids are involved, they might be able to file as head of household under the special rules relating to head of household in cases of married but separated people. At any rate, the original marriage is still valid for federal tax purposes.) But …
  3. North Dakota doesn’t recognize that “original” marriage and now the person is in a “new” marriage in North Dakota, so the person would file a North Dakota tax return as married with their “new” spouse.
  4. If the person has filing obligations in more than one state, it could get even messier.

This obviously is a rare circumstance, but the point is: because of the hodgepodge of laws relating to same-sex marriage, scenarios like this can — and probably will — happen.

Image courtesy of Stuart Miles / freedigitalphotos.net

Will Same-Sex Married Couples Pay More or Less in Taxes Now?

The most-common question people in same-sex marriages have about life after DOMA is if they’ll be better off or worse off by filing as married.

I answer by saying that the answer is: “yes, no, maybe.”

In my practice, approximately 2/3 of my clients in same-gender marriages will owe more in taxes by filing as married than they did by filing as two unmarried people.

This is because of something called the “marriage penalty.”

The marriage penalty is not a literal “penalty” assessed against married couples. The term is used informally to explain the phenomenon in the tax brackets whereby two people pay more in taxes when they get married. This has existed since the late 1960s and historically has hit approximately 50% of married couples.

I wrote more about this topic in this blog post from June 2012.

As I wrote in that blog post regarding how same-sex married couples often benefit on their tax returns from filing as two single people:

In presenting the numbers above, I am not saying that same-sex married couples “have it good” on their taxes. THEY DON’T.

As I have said repeatedly, it’s much better to look at the blatant discrimination that same-sex couples face, rather than looking at numbers on a 1040.

In general, the couples who will benefit from filing as married are those where one spouse earns significantly more than the other spouse; but that’s not always the case — if, for example, the lower-income spouse could claim the earned income credit by filing as single, this couple may find that their combined income is too high to claim the EIC, which could cost them at tax time. Again, it varies widely from couple-to-couple.

Year-to-year on a person’s 1040, the “benefit” of being married may be hard to find for some couples. But there’s much more to why it’s good that DOMA got struck down than just the bottom line on the tax return.

North Dakota Taxes, Same-Sex Marriage, And a Really Bizarre Twist

The North Dakota Attorney General issued an “advisory opinion” on Thursday that, while not specifically addressing taxes, makes it clear that North Dakota will not under any circumstances recognize a same-sex marriage. There’s a twist to the story, which I’ll address after a bit.

But first, the basic tax perspective for a typical same-sex married couple who needs to file a North Dakota tax return: they’ll need to file that return as two single people.

From the opinion:

(S)tate law explicitly does not recognize any marriage other than one between one man and one woman, nor does it recognize any rights associated with the union. While the marriage may be valid elsewhere, the North Dakota Constitution and statutes prohibit its legal recognition.

Now for the bizarre twist part.

The advisory opinion was in response to a question posed by a county recorder who asked: if  a person enters into a same-sex marriage in a state that recognizes such a union, is separated from their same-sex spouse but never gets a divorce, and then comes to North Dakota to enter into an OPPOSITE-SEX marriage, would that be okay?

(Yes, according to this article, this apparently is a real scenario.)

According to the Attorney General, the person would be allowed to enter into the opposite-sex union in North Dakota — even though they’re still in a same-sex marriage from another state — because that same-sex marriage isn’t valid and thus never existed under North Dakota law.

I have to admit, I’ve never considered such a scenario. And now I’m digging into the federal tax consequences of this.

Since you typically can’t get married if you’re already married to someone else, I haven’t had any luck finding IRS guidance because I’m not sure this has ever happened before.

My initial reaction is: could it be that the person in this scenario would need to file their federal taxes as married with their same-sex spouse, but then file their North Dakota taxes as married with their “new” opposite-sex North Dakota spouse?

My head hurts!

Colorado Tax Guidance for Same-Sex Marriage

Same-sex married couples who need to file a Colorado tax return can file those returns as married. You can find further guidance from the Colorado Department of Revenue here.

The short version of the guidance is:

  1. Same-sex married couples are required to file federal taxes as married, and
  2. Colorado tax law requires taxpayers to use the same filing status on the Colorado return as they used on the federal return, but
  3. Colorado has a constitutional amendment prohibiting the recognition of same-sex marriage. However….
  4. For tax purposes, couples in same-sex marriages who need to file a Colorado tax return can file that Colorado return as married.

 

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