Avoiding Those Tax Day Dilemmas

Know Your Limits

At the outset, it is essential to note that the practice of law has evolved into a highly specialized profession. One simply cannot understand all the facets of many different legal disciplines. Accordingly, the most important rule of thumb regarding family law and tax is that, if you are the slightest bit unclear as to the meaning of a tax rule, interpretation of the rule or consequence of that rule, it is necessary to advise your client to consult a trusted tax attorney, accountant or other financial expert. While a client's inquiries regarding his or her taxes may seem innocuous and within the practitioner's vast knowledge, a small amount of inaccurate information can have serious long-term effects on a client's finances. Incorrect counsel may cause an audit, interest and penalties and heartache to the client ' and may subject the practitioner to a malpractice action.

As a precautionary measure, the practitioner must advise clients that he or she is not a trained tax professional and, accordingly, that a professional should be consulted. The client's use of an appropriate accountant or other tax professional protects the client to a large extent from tax-related concerns and greatly limits the practitioner's liability in this regard.

With the above considerations in mind, there are some practical issues on which clients will commonly seek advice. If the practitioner is comfortable doing so, he or she may provide advice in these matters.

Deductible or Includible?

Many common questions arise over the deductibility and inclusion of support payments by one spouse to another.

In Pennsylvania, for instance, the Pennsylvania Support Code allows support to be retroactive to the date of the plaintiff's filing of a complaint in support. Often, in the period between filing and the entry of a support order, one spouse will make voluntary payments to the other spouse, to help with his or her expenses. This minimizes the amount of arrears he or she ultimately has to pay upon the entry of an order.

While one spouse can receive credit for these payments against the arrears in the ultimate support order, the Internal Revenue Code does not allow the paying spouse to deduct these “interim” support payments and does not require the payee to include these payments in his or her income. This result is due to the IRC ' 71 restriction, which only allows deductibility of payments by the payor spouse if they are made pursuant to a divorce or separation agreement, including an order for alimony pendente lite.

Accordingly, when a client inevitably calls the practitioner's office to ask what portion of his or her support is deductible or includible, the practitioner must be extremely cautious in advising the client appropriately.

Filing Status

An additional issue often arises for clients in attempting to determine whether to file jointly, separately or as head of household. Often, because of client procrastination in filing tax returns, this decision may be pushed off until the last minute and the practitioner may be asked for advice with little information to influence his or her decision. When spouses elect to file jointly, the general rule is that the return may not be amended to change the filing status to separate. But, should the parties elect to file separately, the parties will later be able to amend their returns and change their filing status from separate to joint, as long as they file the amended return within three years of the tax filing deadline.

When the practitioner receives last-minute tax questions on such a topic and there simply is not enough time to make an informed decision, the parties may file a joint extension and still maintain the right to file separately.

Support Awards

After a plaintiff has filed a complaint for support and during the initial conference or later proceeding, much time is often spent in figuring out each party's net income available for support, how additional expenses will be shared and what other terms will be included in the order. A frequently overlooked issue is that of allocation of an order when there are both child support and spousal support or alimony pendente lite aspects of an order.

In Pennsylvania, for example, The Pennsylvania Support Code addresses this allocation. The Code states at Pa. 23 1910.16(a) that, “In an order awarding child support and spousal support, the court may on its own motion or upon the motion of either party (1) Make an unallocated award in favor of the spouse and one or more children, or (2) State the amount of support allocable to the spouse and the amount allocable to each child.”

In the case of the former scenario, all support paid has the potential for being deductible in the payor's income and included in the payee's income, assuming it meets all eight requirements laid out in IRC ' 71. This result occurs despite the fact that some of the monies were designed to be child support and not taxable. In the latter situation, however, the practitioner who has the order allocated ensures that the portion of the monies allocable to child support will neither be includable nor deductible in the payor or payee's income. As a practical matter, the practitioner representing the payee will want an allocated order and a practitioner representing the payor will want an unallocated order.

Legal Fees

Section 212 of the Internal Revenue Code allows taxpayers to deduct certain expenses that are incurred to produce taxable income. Accountants, appraisers and vocational expert fees may also be included in this deduction. As a result, the payee spouse may be entitled to a deduction. This deduction is not allowable for alternative minimum tax purposes, which may reduce the tax benefit of the deduction. The payor spouse generally is not entitled to a deduction for fees paid to minimize the amount of a support or alimony award.

Conclusion

As a calendar tax year ends, it is a good opportunity to reach out to your clients receiving support and advise them that they may be able to deduct some of their legal fees incurred with regard to support. In this correspondence, provide them with a copy of the previous year's legal bills, advise them to speak to their tax professional regarding these issues and, finally, to contact you regarding preparation for the handling and filing of their upcoming returns. This procedure allows the practitioner to advise the client of a potential tax issue and also attempt to avoid problems and time constraints near the tax filing deadline.

Tax is a difficult discipline to comprehend and a nearly impossible task to conquer. As family law practitioners, we need to achieve a basic understanding of the tax code and the relevant provisions that may affect our clients. Once we identify an issue, the best legal advice we can give is the contact information of a qualified tax adviser.

Jonathan T. Hoffman is an associate with the family law practice of Weber, Gallagher, Simpson, Stapleton, Fires & Newby, LLP. This article also appeared in The Legal Intelligencer, an ALM sister publication of this newsletter.

Inextricably intertwined in the practice of family law are significant tax issues ranging from interpretation of Internal Revenue Code provisions to complex calculations regarding the valuation and transfer of assets.

These issues often become more prevalent around the tax filing deadlines as clients begin to turn their focus to finalizing their returns and to worry about their tax filing status, claims of dependency exemptions and deductions and inclusions for spousal support, alimony pendente lite and alimony.

While the majority of these issues cannot be discussed in great detail in this article, it is highly important for practitioners to understand some basic concepts to enable them to assist in advising their clients appropriately and effectively.

Know Your Limits

At the outset, it is essential to note that the practice of law has evolved into a highly specialized profession. One simply cannot understand all the facets of many different legal disciplines. Accordingly, the most important rule of thumb regarding family law and tax is that, if you are the slightest bit unclear as to the meaning of a tax rule, interpretation of the rule or consequence of that rule, it is necessary to advise your client to consult a trusted tax attorney, accountant or other financial expert. While a client's inquiries regarding his or her taxes may seem innocuous and within the practitioner's vast knowledge, a small amount of inaccurate information can have serious long-term effects on a client's finances. Incorrect counsel may cause an audit, interest and penalties and heartache to the client ' and may subject the practitioner to a malpractice action.

As a precautionary measure, the practitioner must advise clients that he or she is not a trained tax professional and, accordingly, that a professional should be consulted. The client's use of an appropriate accountant or other tax professional protects the client to a large extent from tax-related concerns and greatly limits the practitioner's liability in this regard.

With the above considerations in mind, there are some practical issues on which clients will commonly seek advice. If the practitioner is comfortable doing so, he or she may provide advice in these matters.

Deductible or Includible?

Many common questions arise over the deductibility and inclusion of support payments by one spouse to another.

In Pennsylvania, for instance, the Pennsylvania Support Code allows support to be retroactive to the date of the plaintiff's filing of a complaint in support. Often, in the period between filing and the entry of a support order, one spouse will make voluntary payments to the other spouse, to help with his or her expenses. This minimizes the amount of arrears he or she ultimately has to pay upon the entry of an order.

While one spouse can receive credit for these payments against the arrears in the ultimate support order, the Internal Revenue Code does not allow the paying spouse to deduct these “interim” support payments and does not require the payee to include these payments in his or her income. This result is due to the IRC ' 71 restriction, which only allows deductibility of payments by the payor spouse if they are made pursuant to a divorce or separation agreement, including an order for alimony pendente lite.

Accordingly, when a client inevitably calls the practitioner's office to ask what portion of his or her support is deductible or includible, the practitioner must be extremely cautious in advising the client appropriately.

Filing Status

An additional issue often arises for clients in attempting to determine whether to file jointly, separately or as head of household. Often, because of client procrastination in filing tax returns, this decision may be pushed off until the last minute and the practitioner may be asked for advice with little information to influence his or her decision. When spouses elect to file jointly, the general rule is that the return may not be amended to change the filing status to separate. But, should the parties elect to file separately, the parties will later be able to amend their returns and change their filing status from separate to joint, as long as they file the amended return within three years of the tax filing deadline.

When the practitioner receives last-minute tax questions on such a topic and there simply is not enough time to make an informed decision, the parties may file a joint extension and still maintain the right to file separately.

Support Awards

After a plaintiff has filed a complaint for support and during the initial conference or later proceeding, much time is often spent in figuring out each party's net income available for support, how additional expenses will be shared and what other terms will be included in the order. A frequently overlooked issue is that of allocation of an order when there are both child support and spousal support or alimony pendente lite aspects of an order.

In Pennsylvania, for example, The Pennsylvania Support Code addresses this allocation. The Code states at Pa. 23 1910.16(a) that, “In an order awarding child support and spousal support, the court may on its own motion or upon the motion of either party (1) Make an unallocated award in favor of the spouse and one or more children, or (2) State the amount of support allocable to the spouse and the amount allocable to each child.”

In the case of the former scenario, all support paid has the potential for being deductible in the payor's income and included in the payee's income, assuming it meets all eight requirements laid out in IRC ' 71. This result occurs despite the fact that some of the monies were designed to be child support and not taxable. In the latter situation, however, the practitioner who has the order allocated ensures that the portion of the monies allocable to child support will neither be includable nor deductible in the payor or payee's income. As a practical matter, the practitioner representing the payee will want an allocated order and a practitioner representing the payor will want an unallocated order.

Legal Fees

Section 212 of the Internal Revenue Code allows taxpayers to deduct certain expenses that are incurred to produce taxable income. Accountants, appraisers and vocational expert fees may also be included in this deduction. As a result, the payee spouse may be entitled to a deduction. This deduction is not allowable for alternative minimum tax purposes, which may reduce the tax benefit of the deduction. The payor spouse generally is not entitled to a deduction for fees paid to minimize the amount of a support or alimony award.

Conclusion

As a calendar tax year ends, it is a good opportunity to reach out to your clients receiving support and advise them that they may be able to deduct some of their legal fees incurred with regard to support. In this correspondence, provide them with a copy of the previous year's legal bills, advise them to speak to their tax professional regarding these issues and, finally, to contact you regarding preparation for the handling and filing of their upcoming returns. This procedure allows the practitioner to advise the client of a potential tax issue and also attempt to avoid problems and time constraints near the tax filing deadline.

Tax is a difficult discipline to comprehend and a nearly impossible task to conquer. As family law practitioners, we need to achieve a basic understanding of the tax code and the relevant provisions that may affect our clients. Once we identify an issue, the best legal advice we can give is the contact information of a qualified tax adviser.

Jonathan T. Hoffman is an associate with the family law practice of Weber, Gallagher, Simpson, Stapleton, Fires & Newby, LLP. This article also appeared in The Legal Intelligencer, an ALM sister publication of this newsletter.