No matter how much or how little emotional drama arrives when your tax clients are going through a divorce, numerous financial pitfalls must be navigated that could cost thousands of dollars.
This personal financial planning column is a blueprint for avoiding expensive mistakes. Consider the example of a married couple who have been good tax clients for a long time. Each tells their CPA about being adamant on retaining those services as a trusted tax preparer after their impending divorce. Any CPA would be flattered by the client loyalty, but the CPA must consider multiple issues. First, the moment a couple for whom a CPA has prepared joint tax returns announce an intention to divorce, their individual interests can be at odds with each other.
While preparing tax returns for opposite sides of a divorce is not expressly prohibited by IRS rules or the AICPA Code of Professional Conduct (unless the conflict of interest impairs the CPA’s objectivity and professional judgment), it can expose a CPA to liability. If the CPA believes advice can be objectively provided to the ex-spouses, the clients should be asked to sign consent forms stating that they waive any potential conflict of interest.
Also, the “divorce penalty” of the Tax Cuts and Jobs Act isn’t so much a penalty as it is the elimination of a tax break. Writes David Slade of the Charleston Post and Courier of divorces that would take affect starting in 2019:
“Under the old rules the person paying alimony — presumably the partner with the higher income and higher tax rate — could avoid income tax on those payments, while the receiving partner paid income tax on the payments, but presumably at a lower tax rate.
“Under the new rules, alimony will no longer be tax-deductible for the person making the payment. And the income will be tax-free, for the recipient. What that means is the person in the higher tax bracket would mostly likely be the person who owes the IRS.”
The rules changes are expected to increase federal revenue over 10 years by $6.9 billion.