Tax Implications of Marital Assets and Division of Property

A. Property Settlement Award Not Taxable. A property settlement award or transfer of property between spouses incident to a divorce is not subject to taxation under I.R.C Section 1041.  It may be beneficial for the parties to reach an agreement that does not divide all of the assets, but instead awards one of the parties a lump sum settlement for their equity interest in the marital property.  For example, the parties may have a home worth $300,000.00 that is encumbered by a $100,000.00 mortgage.  Instead of selling the home, incurring realtor fees, and then dividing the remaining proceeds from the sale, an agreement could be reached that awards the home to one spouse.  In exchange, the individual awarded the home agrees to pay the other party $100,000.00 as a property settlement.  Under this scenario, no taxable gain or loss is recognized on the transfer of the $100,000.00 property settlement pursuant to I.R.C section 1041.

B. Gains from Sale of Personal Residence: I.R.C Section 121(b) provides that an individual may exclude from income up to $250,000.00 of gain ($500,000.00 if sold as husband and wife on a joint return) that is realized from the sale of a primary residence provided the Internal Revenue Service’s ownership and use tests are satisfied.  As a general rule the gain will only be exempt from tax if the home was used as primary residence for an aggregate of two years over the past five years.  So unless the home has increased $250,000.00 in value from the date you purchased it (or $500,000.00 if purchased with a spouse), there will be no taxable gain on the sale of personal residence.  It is important to note that if your client moved out of the residence before the divorce was final, but then ended up getting the house in the proceedings anyway, he/she can still claim the house as his/her primary residence.

In a situation where the home has increased in value, the issue will turn to whether or not the taxpayer primarily resided in the home for a total of two years during the five year period preceding the date of sale.  Any temporary periods of absence of less than an entire year would count as periods of use (e.g. vacation, work travel, or seasonal absences).  In the event of a temporary court order or restraining order that was entered while the divorce or legal separation was pending, I.R.C section 121(d)(3)(B) states that “an individual shall be treated as using property as such individual’s principal residence during any period of ownership while such individual’s spouse or former spouse is granted use of the property under a divorce or separation instrument.” A special exception to the two-out-of-five rules exists for active duty military personnel under I.R.C section 121(d)(9).

If any portion of the gain of a primary residence is associated with a separate dwelling unit, the dwelling unit is subject to allocation and taxation.  You will need to discuss the allocation issues with your accountant.  The dwelling unit will not be lumped in with the primary residence.  The IRS Regulations are clear on the allocation requirements for mixed use property.



Tax Implications of Divorce in Washington State

While there are many facets to the practice of family law, the divorce practitioner should be aware of tax implications associated with the treatment of property and debt division, spousal maintenance, child support, and attorney’s fees.  It is important to be versed enough in the area of tax law to properly advise clients the ramifications of a particular settlement, or to advise the judicial officer hearing your case of tax implications so that a settlement or ruling has the impact intended by the parties or judicial officer.  It is also critical when practicing family law to know your limitations when it comes to this area.   As a divorce lawyer, it is common to consult with someone whose area of expertise is in tax law whether that be a Certified Public Accountant and/or tax attorney.  IRS Publication 504 is a valuable publication offered by the IRS addressing many common issues associated with tax implications and divorce.



Common Tax Issues in Divorce

1. Married filing jointly: Married taxpayers may elect to file a joint return or file as married persons filing separately.   A husband and wife can file a joint tax return provided that a final decree of dissolution or decree of legal separation has not been filed on the last day of the tax year.  Special rules and exceptions may apply to resident and nonresident aliens and spouses of military personnel serving in combat zones.

2. Head of Household: Benefits to filing as head of household include a higher standard deduction, lower tax rate, and ability to claim certain credits (e.g. dependent care credit and the earned income credit). A taxpayer may be able to file as head of household if they meet all the following requirements:

  • Are unmarried or “considered unmarried” on the last day of the year;
  • Paid more than half the cost of keeping up a home for the year; and
  • A “qualifying person” lived in their home for more than half the year

3. Married filing separately may yield higher tax: Married couples who want to be responsible only for his or her own tax may each file separate returns.  There is no joint liability on a separate return.  But in almost all instances, if the taxpayer files a separate return, they will pay more combined federal tax than they would with a joint return. This is because the special rules apply if you file a separate return, such as a higher tax rate, lower deductions, and the disqualification of various credits (e.g. child and dependent care expenses).

B. Joint and individual liability:  Both spouses may be held responsible, jointly and individually, for the tax and any interest or penalty due on a joint return. This means that one spouse may be held liable for all the tax due even if all the income was earned by the other spouse.

C. Divorced taxpayers: Even after divorce a taxpayer may be held jointly and individually responsible for any tax, interest, and penalties due on a joint return for a tax year ending before the divorce. This responsibility applies even if the divorce decree states that the other spouse will be responsible for any amounts due on previously filed joint returns.  A hold harmless provision in the decree, however, could be enforced through the divorce court.  (See also Innocent Spouse relief below).



Upcoming NBI Seminar on Tax Consequences of Divorce

Philip C. Tsai and Todd R. DeVallance will be speaking at the upcoming NBI seminar on the tax consequences of divorce.  When it comes to the financial impacts of divorce, tax consequences are critical to clients.  This seminar will discuss common tax issues, the tax impacts of dividing assets, income tax considerations, property tax issues, and tax planning strategies.  Register to join us today!


Property Agreements for Divorce in Washington

A Community Property Agreement is a specifically statutorily created agreement that spouses may enter into after marriage which converts separate property of either spouse into community property.  It is different than a Prenuptial Agreement in that it is entered into after marriage, whereas a Prenuptial Agreement is entered into in anticipation of marriage.  There are specific procedural requirements regarding the validity of a Community Property Agreement that need to be followed to be enforceable in Washington state.

Many people use Community Property Agreements as Estate Planning devices to avoid probate.  A community property agreement may also affect how a court characterizes property in a divorce, and therefore may have specific ramifications in determining division of property as the characterization of property usually impacts the division thereto.


Marriage Annulment in Washington State

Washington does not use the term “Annulment” when referring to an invalid marriage.  Under Washington Law, a spouse may make a request that the Court determine that a marriage is invalid pursuant to the filing of a Petition to Determine the Validity of Marriage. 

An example of a situation where the Court will declare a marriage to be invalid is when a spouse was previously married and never divorced but then remarried. There are other statutory factors that the Court will consider when making the determination of the validity of marriage.  Please contact a Family Law Attorney at TLC to discuss the validity of your marriage.


Emily Tsai is a Featured Speaker at NBI Adoption Process Seminar

On March 8, 2012, Emily Tsai will be a featured speaker at the NBI Adoption Process from Start to Finish.  Topics will include ethical issues in adoption proceedings and obstacle’s to adoption.  Specific agenda items include:

  • Non-parental custody actions
  • Parentage actions
  • De facto parenting
  • Right of the child to a guardian ad litem
  • Common law right to child support
  • Conflicts of interest in adoption

Registration is $349 and includes a course book.  You can also purchase a recording if you cannot attend.  You may register at the following link here.








Dividing Separate Property in Divorce

Philip Tsai spoke at the 6th Annual Family Law Hot Topics:  War, Peace, and Unhappy Families on October 7th, 2011.  At this seminar, Philip discusses Separate Property Claims (Part 2) in reference to issues that can send your case to trial.   To view Part 1, click Spousal Maintenance.

Separate Property Claims

Another difficult issue that may thwart settlement is how to analyze and prove a separate property claim.   First, some basic tenants of the law are examined. 

The law favors characterization of property as community property.  Marriage of Davison, 112 Wn.App. 251 (2002).  Marriage of Brewer, 137 Wn.2d 756 (1999).   

When dividing property in a divorce, the Court has to have characterization as either separate or community “in mind” or it is reversible error.  Blood v. Blood, 69 Wn.2d 680 (1966).   Marriage of Skarbek, 100 Wn.App. 444 (2000). 

Separate property should not normally be subject to division between the parties.  Marriage of Olivares, 69 Wn.App. 324 (1993).  However, separate property may be divided under the just and equitable criteria of RCW 26.09.080.  Exceptional circumstances is no longer necessary for the court to invade separate property to achieve a just and equitable result as all property is before the Court for a fair and equitable division.  RCW 26.09.080.  Marriage of Griswold, 112 Wn.App. 333 (2002). 

One of the most common and notable scenarios in family law is when a spouse owns a separate property residence prior to marriage but later refinances the residence titling the property in both parties’ names.  Or, one spouse uses separate property to purchase property in the name of the other spouse or both spouses.  Prior case law established that under this scenario, there was a presumption of a gift by the spouse owning the separate property to the other spouse, otherwise known as the “joint title gift presumption”.  See Marriage of Olivares, 69 Wn. App. 324 (1993), Marriage of Hurd, 69 Wn. App. 38 (1993). 

However, the joint title gift presumption was recently overruled in Estate of Borghi, 167 Wn.2d 480 (2009).  The Court in Borghi, supra,  recognized the conflicting presumptions established in the cases up to that point in time.  The court in Borghi, supra, stated:

Further, to apply a presumption based on a change in the name or names in which title is held would create a situation in which a court is asked to resolve an evidentiary question based on nothing more than conflicting presumptions.  This case illustrates the conundrum. A court starts with the presumption that the property is Jeanette Borghi’s separate property because it was acquired with her own funds before her marriage to Robert Borghi. The parties in this case agree it was initially her separate property. Then, the court must rely on the inclusion of both Robert and Jeanette Borghi’s names on the 1975 deed to support a presumption that the property is community property. Applying these presumptions simultaneously, the court reaches an impasse. If we somehow reason that the community property presumption must prevail because it is later in time, then what became of the rule that clear and convincing evidence of actual intent is needed to overcome the original separate property presumption? In sum, applying a gift presumption to counter the separate property presumption in these circumstances would reduce community property principles to a game of King’s X. See 19 Weber, supra, § 10.7 n.4, at 142. We refuse to do so and instead adhere to the well-settled rule that no presumption arises from the names on a deed or title. To the extent Hurd and Olivares suggest a gift presumption arising when one spouse places the name of the other spouse on title to separate property, we disapprove these cases.

While the joint title gift presumption has been overruled, this does not automatically mean that a spouse who decides to use separate property to acquire property in both parties’ names cannot make a gift to the community by doing so.  However, clear and convincing evidence of the intent of the spouse creating community property needs to be established with concrete evidence of intent to create community property to overcome the separate property presumption.

Another scenario that may thwart settlement is a lack of sufficient tracing of separate property by the spouse making the separate property claim.  The law is clear that property acquired during a marriage is presumed to be community property.  Marriage of Sedlock, 69 Wn. App. 484 (1993).  However, it is also clear that property owned by a spouse prior to marriage is presumed to be separate property.  Marriage of White, 105 Wn.App 545 (2001).  To rebut the community property presumption, the burden of proof is on the party claiming separate property to clearly and convincingly trace the property to a separate property source.  Marriage of Pearson-Maines, 70 Wn. App. 860 (1993).   Specifically, the Court in Pearson-Maines, supra stated:

The well-established rule is that the character of property, whether separate or community, is determined at its acquisition. Property acquired after marriage is presumptively community property. The presumption may be rebutted by clear and satisfactory evidence.  E.I. DuPont de Nemours & Co. v. Garrison, 13 Wash. 2d 170, 174, 124 P.2d 939 (1942). If the property was separate property at the time of acquisition, it will retain that character as long as it can be traced and identified.  Baker v. Baker, 80 Wash. 2d 736, 745, 498 P.2d 315 (1972).

There are many different factual scenarios that can arise when tracing separate property.  Some common situations include: (1) a spouse owned a separate property residence that was sold during the marriage and the proceeds of the sale were used as a deposit or down payment for another residence purchased during the marriage; (2) funds that exist in a bank or stock account prior to marriage that have been used during the marriage and commingled with community bank or stock accounts; (3) retirement accounts that were contributed to prior and during the marriage resulting in mixed separate and community property character; and (4) stock options that were awarded prior to the marriage but vest during the marriage.

It is advisable if you have separate property tracing issues in your case to begin the tracing analysis immediately upon commencement of the representation.  In many instances, it can take several months to obtain documents (if they can be obtained) that will be necessary to meet the clear and convincing evidence test enumerated in Pearson-Maines, supra

There are some cases where your client may have the documents necessary to perform the tracing, but many times, that is not the case.  Depending on the length of the marriage, the documents necessary for a tracing analysis can be decades old.  Issuing subpoenas to obtain the documents is helpful.  However, having your client contact the appropriate source, whether it is real estate professionals and escrow documents or financial institutions holding bank and retirement account statements to obtain the documents is frequently more fruitful. 

Beginning the tracing analysis early on in your case is key to a successful settlement.   Do not use the mediation or settlement conference process to perform discovery or expect the other spouse to admit that the property in question is separate.  If necessary, hire an expert to perform the tracing analysis and provide a report that you can use during mediation or at trial. 

Expectancy Or Loss

Another issue that can sometimes interfere with your ability to settle a case in the context of division of assets and liabilities is a proper analysis of expectancy or loss.  There are many types of expectancies that arise in family law cases including: (1) whether a spouse will receive an inheritance, (2) the likelihood that a spouse will receive a parental gift subsequent to the divorce, (3) possibility of remarriage, and (4) receipt of or loss of social security benefits.  Some expectancy benefits are able to be considered by the Court while others are not. 


The general rule regarding inheritance is that a bequest in a will while the testator is still living is merely an expectancy and should not be considered by the Court when making a division of assets and liabilities.  See Rubin v. Rubin, 204 Conn. 224, 229-30, 527 A.2d 1184, 1187, 62 A.L.R.4th 91 (1987); Gassaway v. Gassaway, 489 A.2d 1073, 1076 n.9 (D.C. 1985).  However, when the testator has passed away and the will can no longer be changed, the bequest becomes a vested interest to the extent of its actual value.  Marriage of Hurd, 69 Wn. App. 38 (1993).  Under that circumstance, although the inheritance is characterized as separate property, the Court should consider its existence pursuant to RCW 26.09.080(2) .  Hurd, 69 Wn. App. at 50. 

In an unreported case, Marriage of Trammell, 98 Wn. App. 1003 (1999), the Court applied the expectancy rule enumerated in Marriage of Hurd, supra, and found that a non disclosed inheritance where the testator had passed away created a vested interest which should have been disclosed to the other spouse pursuant to a Property Settlement Agreement that divided any undisclosed assets between the spouses equally.  Trammell is a good example of the importance of properly analyzing an expectancy and full disclosure. 

Parental Gifts

Similarly to the expectancy rule enumerated in Marriage of Hurd, supra, the Court should also not consider whether the parents of a spouse will make a gift to the spouse when determining a fair and equitable division of assets and liabilities.  Lake v. Lake, 63 Wyo. 373 (1947).   In Bungay v. Bungay, 179 Wash. 219 (1934) (a pre no fault divorce case), the Court stated:

Since, as we have seen, the husband has only two hundred dollars per month income, above that already assigned in good faith to secure the payment of community indebtedness, these provisions are impossible of performance unless someone comes to the appellant’s aid. It is suggested that appellant’s father is well-to-do, and perhaps it was expected that he would assume the burden thus created, but we know of no rule of law which, under circumstances such as here exist, makes a father liable for the indebtedness of an adult son, and the law can look only to appellant’s earning power as the measure of his duty to provide.

The Court in Bungay, supra, makes it clear that when dividing property between spouses, the fact that one or both of the spouses’ parents may have means to assist the spouse after the divorce is final, the Court cannot take that factor into consideration.


The Court may also consider whether one of the spouses in a divorce proceeding is likely to remarry when determining a fair and equitable division of assets and liabilities.  The Court in Eide v. Eide, 1 Wn. App. 440 (1969) upheld the trial court’s division of property and liabilities and specifically quoted the trial court as follows:

She has had no training for any particular occupation.  It is true that she has been a waitress.  She has been a cashier.  But people who can do that kind of work are numerous, and except in times of high employment, which is now, of course, I would think that she would have more difficulty in getting that kind of a job than someone twenty or twenty-five years younger.  Also, as we get older that kind of work becomes much more difficult to be on your feet all of the time.

But I do think that some thought has to be given here to her security for the future and the fact that at her present age she is much less likely to remarry than she was at the age when she did marry Mr. Eide.

Social Security Benefits

The Court may also consider as part of a fair and equitable division of property whether a spouse will receive Social Security Benefits.  Specifically, in Marriage of Zahm, 138 Wn.2d 213 (1999), the Court held that Social Security Benefits are indivisible separate property of the spouse earning the benefits.  Specifically, the Zahm, supra, court held:

Although extrajurisdictional case law on this issue is scant, we conclude that federal statutes secure social security benefits as the separate indivisible property of the spouse who earned them. This approach ensures that the benefits intended for the beneficiary reach that party and that the benefits are insulated from the occasionally unpredictable fortunes of legal dispute.

The Court is also able to consider whether a spouse will lose anticipated social security benefits when fashioning a fair and equitable division of property and liabilities.  The court in Patrick v. Patrick, 43 Wn.2d 139 (1953) specifically held:

After considering the rules just mentioned, we are of the opinion that an award of alimony to the appellant in the sum of fifty dollars a month would not be unreasonable, as the property award made by the trial court will hardly leave the husband in a necessitous condition. While we are not inclined to disturb the court’s division of the property, we believe the court erred in failing to make some provision for reasonable alimony to the wife, since, in our opinion, appellant should be compensated in some manner for her potential interest in the social security benefits of the husband, as to which, under Federal law, she will lose all rights by virtue of the divorce.

 Therefore, the family law practitioner should be aware of the different arguments that can be made regarding expectancy and loss when considering the overall economic circumstances of the parties.


Preparing both the case and the client for mediation is the most important thing an attorney can do to maximize the chances of settling.  While some issues are particularly problematic in this economy, those issues can be resolved by creative drafting that gives the parties options not available at court.  Sample agreements regarding the sale of real property and formulas for maintenance are attached.


Spousal Maintenance, How Much And For How Long?

Philip Tsai, partner at Tsai Law Company spoke at the October 7, 2011 annual King County Bar Association Hot Topic CLE to talk about “Issues that can send your case to trial or How to maximize your chances of settling.”  Including Part 1 for Spousal Maintenance.  If you would like to view the second part of this session, click Separate Property Claims.

One of the most challenging aspects of advising a family law client is the determination of alimony/spousal maintenance.  One reason this challenge exists is that there is no schedule or specific financial guideline in Washington that the judicial officer determining maintenance is required to follow.  While RCW 26.09.090 provides the Court with factors to consider when awarding or not awarding spousal maintenance, the Court has substantial discretion regarding fashioning the duration and amount of an award.  An award of spousal maintenance is usually not disturbed on appeal unless a party can prove an abuse of discretion.   No guideline makes it difficult for the family law practitioner to advise a client for settlement and can often result in a trial.  No specific guideline can also lead to unpredictable outcomes and similar fact patterns with very different results.

Analysis in Washington

The most renowned treatise regarding judicial discretion and financial equity between of spouses in a marital dissolution proceeding was written by Judge Winsor, “Guidelines for the Exercise of Judicial Discretion in Marriage Dissolutions,” Washington State Bar News, vol. 14, page 16 (Jan. 1982). 

In his treatise, Judge Winsor provides reasoned analysis of how judicial discretion should be exercised: 

“In the case of a short marriage, the marriage has in fact not been the significant event that is normally presumed. Particularly, there has not been a long reliance on the marital partnership. Therefore, the emphasis should be to look backward to determine what the economic positions of the parties were at the inception of the marriage and then seek to place them back in that position, including provision for interest or inflation, if feasible. After doing that, if there are properties left over, they would presumably be divided about equally. Presumably in a short marriage maintenance would not be paid, except in extraordinary circumstances or perhaps for a very brief adjustment period.” …

“In the case of a long marriage, the goal should be to look forward and to seek to place the spouses in an economic position where, if they both work to the reasonable limits of their capacities, and manage properties awarded to them reasonably, they can be expected to be in roughly equal financial positions for the rest of their lives. Long term maintenance, sometimes permanent, is presumably likely to be used unless the properties accumulated are quite substantial, so that a lopsided award of property would permit a balancing of the positions without (much) maintenance.”

Winsor, Robert W., “Guidelines for the Exercise of Judicial Discretion in Marriage Dissolutions,” Washington State Bar News, vol. 14, page 16 (Jan. 1982).

While Judge Winsor’s article provides practical guidance regarding how to treat spouses of a marriage based on the duration, the type of property being awarded, and respective financial circumstances of the parties, it still does not answer the question of amount and duration of spousal maintenance.

Some family law practitioners in Washington use a 4 to 1 ratio regarding alimony, i.e., for every 4 years of marriage, 1 year of spousal maintenance is appropriate assuming all of the other factors are present for an award.[1]  Therefore, for a 20 year marriage, 5 years of spousal maintenance may be appropriate.  However, there are many issues that can complicate even this seemingly straight forward formula.  For example, should the pre decree or temporary period of maintenance be included in the ratio? What if the parties have been separated for a substantial period of time prior to the filing of the action?  When there are children involved, RCW 26.19.071 clearly indicates that maintenance actually received is income to the recipient.  However, should the spousal maintenance duration take into consideration the ages of the children including whether support will terminate for an emancipated child when child support is being ordered in addition to the spousal maintenance? 

While there is no single answer to how to handle these issues when they arise in your cases, it is important to recognize and attempt to fashion a solution early on if a successful settlement is to be achieved.

Other States Approach

Many states use specific guidelines and formulas to fashion a spousal maintenance award.  For example, while the ultimate award is left to the discretion of the Court, Santa Clara, California routinely uses a formula to determine spousal maintenance pendente-lite.  The Santa Clara formula is as follows:

Payor Net Income (payor’s gross monthly income minus income tax and Social Security payments and minus child support) –(child support x 40%= ____________)- (Payee net income x 50% = _______________).  When the starting alimony determination is made, the court can consider deviations such as credit for private school tuition, amount of community debt assumed by payor, etc.[2]

In Florida, a long-term marriage is defined as 16 years or more.  There is a presumptive award of permanent alimony.  Marriages of less than six years are short term marriages and there is no presumptive award of permanent alimony.  Marriage between six and sixteen years is a gray area in which no presumption of permanent alimony exists.  In such cases, statutory factors are used with a rule of thumb timeline to fashion an appropriate award of spousal maintenance.[3]

 In Texas, a 10 year marriage is required for any amount of post dissolution maintenance unless one of the spouses is disabled.  Support is limited to $2,500 per month for a period not to exceed three years.[4]

In New Mexico, support during the pendency of the proceeding is set so that each party has one-half of any remaining income after fixed expenses are paid to include housing costs, utility expenses, minimum loan and credit card payments and insurance premiums.  NMRA 1-122.A (2001).

American Academy of Matrimonial Lawyers Approach

One approach to establishing an alimony award is to follow the AAML‘s Commission Recommendations.  Those recommendations provide a formula to determine the amount and duration of alimony focusing on the income of the spouses and length of marriage. 

Specifically, to determine the amount of alimony, a spousal support award should be calculated by taking 30% of the payor’s gross income minus 20% of the payee’s gross income.  However, when added to the gross income of the payee, the alimony award shall not result in the recipient receiving in excess of 40% of the combined gross income of the parties.  Gross income is defined by the state’s definition of gross income under the child support guidelines, including actual and imputed income.  There may be factors in any given case to deviate from this formula.

To determine the duration of the alimony award, multiply the length of the marriage by the following factors: 0-3 years (.3); 3-10 years (.5); 10-20 years (.75), over 20 years, permanent alimony.  There may be factors in any given case to deviate from this formula.

[1] However, some practitioner’s will use a 3 to 1 ration while others use a 5 to 1 ratio.  There does not seem to be uniformity with this approach.

[2] Alimony Guidelines: Do They Work? Virginia R. Duga, Jon A. Feder Family Advocate, (2003). 

[3] Id.

[4] Id.


Anderson Cooper Talks Child Custody with Trish Conlon and Todd DeVallance

Trish Conlon and Todd DeVallance of Tsai Law Company are interviewed by Anderson Cooper on his new daytime talk show to discuss a Washington State child custody battle with a woman who killed her own children.  Anderson questions if family law cases should consider emotion.

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