JOINT RETURNS & INNOCENT SPOUSE RELIEF

A joint return creates joint and several liability. Each spouse is liable for the entire tax, penalties and interest — not half, and not the portion attributable to their own income.

That liability survives the divorce. It attaches to returns already filed and it does not change because a settlement agreement says one spouse will pay.

THE INDEMNIFICATION MISUNDERSTANDING

Marital settlement agreements routinely provide that one spouse is responsible for taxes on returns already filed and will indemnify the other. That clause is enforceable between the spouses. It does not bind the Internal Revenue Service.

If the liability is not paid, the Service may collect the entire amount from either spouse. The indemnified spouse’s remedy is a contract claim against a former spouse who has by then usually demonstrated an inability or unwillingness to pay.

RELIEF UNDER SECTION 6015

Three forms of relief exist, with different requirements and different deadlines:

• Innocent spouse relief, section 6015(b) — for an understatement attributable to the other spouse where the requesting spouse did not know and had no reason to know.
• Separation of liability, section 6015(c) — available to spouses divorced, legally separated, or living apart, allocating the deficiency between them.
• Equitable relief, section 6015(f) — where the other two do not apply and it would be inequitable to hold the requesting spouse liable. The factors include abuse and financial control.

These determinations are reviewable in the United States Tax Court, and the non-requesting spouse has a right to participate. More on Tax Court practice.

WHY IT BELONGS IN THE NEGOTIATION

Whether relief is likely to be available is a fact question that can be assessed while the settlement is being negotiated, when it can still affect the division. Assessed afterward, it becomes a problem one spouse owns alone.

Where the exposure is real, the settlement can be structured around it — escrow, a filing-status decision going forward, security for the indemnity — rather than relying on a clause that does not reach the creditor.

Related: Audit Reconsideration & Innocent Spouse Relief and Tax Controversy.

ELSEWHERE IN THIS SECTION

• Divorce Special Counsel — the overview, and how the engagement is scoped
• The Tax Gap in Divorce — Why the litigator and the forensic accountant both correctly decline the question, and what falls through between them.
• Testing Tax Claims Across the Table — An asserted tax consequence is a legal position, not a fact. It can be verified, and it is frequently wrong.
• After-Tax Value of Marital Assets — Basis, built-in gain, recapture and character — and why dividing the schedule down the middle is rarely an equal division.
• International Assets in a Marital Estate — Foreign trusts, PFICs, offshore holding companies and non-US pensions, where the penalty exposure can exceed the asset.