How to Minimize Taxes in Your Divorce
By: M. Scott Gordon
Getting divorced in Chicago or the Chicagoland area can be expensive and taxes can add up at the same time. This is especially true if you are required to pay spousal support. As you may know, with relatively recent changes to federal tax law, the spouse who makes alimony payments (known as maintenance) can no longer deduct those payments on their tax returns. To be sure, when a divorce is imminent and one of the spouses was the primary earner, the spouse who was the primary earner may be responsible for significant taxes over a lengthy period of time. The cost of taxes on alimony payments add up, resulting in a substantial amount of money over several years. An article in Forbes discusses some methods of minimizing taxes in your divorce especially when it comes to support payments and we want to talk about a couple of those options with you.
Consider a Settlement Involving More Retirement Benefits
If you were the primary earner in the marriage, you should anticipate the process of property division under Illinois law will result in your spouse receiving a portion of retirement benefits from your 401(k) account or other retirement account. Depending upon the amount of retirement assets distributed to your spouse, it could make more sense to negotiate a property settlement that involves providing additional retirement benefits to your spouse, instead of spousal support (maintenance) payments.
If you and your spouse collectively earn under $500,000 annually, the spousal support amount and duration will likely be determined by the guidelines. As such, you can work with your attorney to estimate the likely amount and duration of spousal support you will be required to pay. For example, if the court determines you should pay $2,000 a month to your spouse for a period of 10 years, you may be able to negotiate a property settlement in which you pay a majority of that from your retirement benefits through a Qualified Domestic Relations Order (QDRO). A divorce is among the only times you can use a QDRO to transfer retirement benefits without paying a penalty. If you transfer the entire amount of spousal support ($2,000 per month x 10 years = $240,000), you will not have to pay tax on this payment. However, this is usually only a good idea if you anticipate being able to replenish your retirement account after the divorce.
Establish a Charitable Remainder Trust
Another option is to establish a charitable remainder trust from which alimony payments will be made. A charitable remainder trust is typically used for a person to give money to a charity. The person who wants to make the payments establishes the trust, puts money into the trust then the trust pays the beneficiary for a specific amount of time. The person establishing the trust can also get a tax break by using a charitable remainder trust. In addition, the trust can earn money and taxes are not due on those gains.
For some couples, it could make sense to establish a trust to make support payments. You should discuss your situation with a Chicago divorce lawyer.
Contact a Divorce Attorney in Chicago
If you have questions or concerns about minimizing taxes in your Chicago divorce, a Chicago divorce attorney at our firm can speak with you about options that may be available. Contact M. Scott Gordon & Associates to learn more.