With tax season around the corner, individuals who are going through divorce will have important decisions to make regarding their 2023 tax filing status.
These include:
- What filing status can I claim?
- What filing status should I claim?
In particular, individuals who are nearing the completion of their divorce may want to consider the tax impact of completing the divorce in 2023, as opposed to completing it in 2024.
Completing the divorce — or delaying it — can have significant tax consequences, so the decision is timely and important.
This blog will address those questions.
What is filing status?
There are five filing statuses:
- Single
- Joint
- Married filing separate
- Head of household
- Surviving spouse
For the purposes of this blog, we will not be considering the “Surviving Spouse” filing status, which generally has the effect of continuing the benefits of joint filing for two years after the death of a spouse.
A taxpayer’s filing status affects the following aspects of the tax calculation:
Tax brackets. The tax bracket determines the amount of tax paid on a given level of taxable income. For an unmarried individual, tax will be lower with head of household than with the single filing status. If the parties are married, and one spouse earns all the income, then typically the combined tax will be lower if they file jointly. If the spouses have equal incomes, it is more likely that the combined tax will be lower if they file separately.
Standard deduction. The standard deduction is slightly higher (resulting in less tax paid) for head of household than for the other filing statuses. The other filing statuses have the same standard deduction on a per-person basis.
Tax credits. The Earned Income Tax Credit is lower for individuals who are married filing separately than for those who are married filing jointly. You must live apart from your spouse to claim the Earned Income Credit on a return where you are married filing separately.
Standard deduction. If the parties file separately, they must either both claim the standard deduction, or both itemize.
Other deductions and credits. Some less-common deductions such as the education interest deduction, some education credits, and Roth IRA deductions, may be less advantageous for couples filing separately than filing jointly.
When is Filing Status Determined?
Filing status is determined afresh each year.
You determine your filing status for 2023 before you file your 2023 tax return, typically some time in the first three months of 2024.
But the facts that determine what filing status you can use are set in 2023.
How is Filing Status Determined?
The first question to ask is: are the parties treated as married on December 31 of the taxable year in question. (So, for tax year 2023, we would be looking at December 31, 2023.)
Generally, if they are legally married on December 31, then they are treated as married for purposes of determining filing status.
There are some exceptions, however. The parties will be considered as not married if:
- If they have lived apart since July 1; or
- If they are legally separated under a decree of separate maintenance; or
- Of course, if they are already divorced.
It is for this reason that the decision whether to complete a divorce by year-end may be driven in part by tax considerations relating to filing status.
If the parties are divorced, they will have one of the filing statuses of unmarried people (single or head of household). If they have not completed the divorce, they will have one of the filing statuses of married people (married filing jointly or married filing separately).
The difference in tax can be significant.
Married parties.
If the parties are considered married, they may file jointly or separately.
They should calculate tax both ways, and see which way minimizes the combined tax.
Here are some pros and cons of filing jointly versus separately:
- If filing jointly reduces the combined tax, the parties may agree to file jointly, and then split the tax savings as compared with filing separately.
- But, in order to file jointly, the parties have to work together to share information, make the tax payment to the IRS, or split the refund.
- Filing separately requires more record-keeping, because two tax returns need to be filed.
- If the parties are paying an accountant, the cost of filing separately may be higher because two tax returns are involved.
Unmarried parties.
If the parties are considered unmarried on December 31, under the tax law’s definition, then they may always file as single.
But if they meet the law’s requirements, they may file instead as head of household, which is always better than filing as single.
So what are the requirements for filing as head of household? The party must:
- The party must be considered unmarried.
- The party must have paid more than half the cost of maintaining a home for themself and a qualifying person (typically a child under age 18).
- The home must be the main home of a qualifying party (typically that child under age 18 again) for more than half the year.
If an unmarried individual is not eligible to file as head of household, then they must file as single (assuming the surviving spouse rules do not apply).
How Can You Figure Out Which is Best?
If you know whether you are “married” or “unmarried,” you can turn to Family Law Software to help with the remaining analysis.
Family Law Software has two unique tools located in the Analysis Tab.
“What if: More > Best Filing Status” shows which filing status minimizes combined federal tax paid in 2023 and who should claim the exemption for the minor children.
“What if: More… > Best Exemptions” will also automatically create a report that shows which party should claim the exemptions for the children in 2023 or 2024 to minimize combined taxes paid.
These quick and easy automated reports empower clients to work together and see the possible savings.
If you are deciding whether to complete the divorce, then use these tools for all four possible filing statuses.
If it is better to be unmarried for tax purposes, then complete the divorce before year end (all else equal).
If it is better to be married, then wait until the new year to complete the divorce (again, all else equal).
And, in any case, use Family Law Software’s tools to help choose the best filing status for the parties, and thus minimize the tax they pay.
Helpful Resources:
FLS Blog “Tax Benefits Relating to Children”: https://blog.familylawsoftware.com/2023/04/04/tax-benefits-relating-to-children/
FLS Power Webinar on Data Entry: https://www.youtube.com/watch?v=7YTZJJmvRpQ
IRS Tool “What Is My Filing Status?”: https://www.irs.gov/help/ita/what-is-my-filing-status
IRS Tax Inflation Adjustments for Tax Year 2024, https://www.irs.gov/newsroom/irs-provides-tax-inflation-adjustments-for-tax-year-2024#:~:text=Marginal%20rates%3A%20For%20tax%20year,for%20married%20couples%20filing%20jointly).&text=The%20lowest%20rate%20is%2010,for%20married%20couples%20filing%20jointly).