Tax Law Impacting Divorce - Part Ii

• Publication year: 1993
• Pages: 9
• Citation: Vol. 6 No. 1 Pg. 9

Tax Law Impacting Divorce - Part II Vol. 6 No. 1 Pg. 9 Utah Bar Journal December, 1993

David S. Dolowitz, J.

The following is Part II of the article on "Tax Law Impacting Divorce". Part I appeared in the December 1992 issue.

THE HOME

The tax situation in dealing with the marital home presents a sensitive and painful problem. Taxes can be deferred on the sale of a principal residence if, within two years, a new principal residence is purchased under Section 1034. This presents two problems with which we must deal.

First, under Section 1034, the provision which permits the deferral, the home must have been the principal place of residence at the time that it is sold. In most divorces, one party has moved from the home by the time of its sale. This means that only one of the two parties can take advantage of the Section 1034 rollover. Congress is considering the unfairness of this situation and did pass a statute which amended Section 1034 to allow the rollover in case of the divorce where a spouse had moved out incident to the divorce. This was part of an overall tax bill which was vetoed by President Bush, hence it is not law. It is part of the present tax law on which Congress is working (H. R. 11), but at this time it does not exist. Consequently, residence in the home is the first problem with which family lawyers have to deal, unless H. R. 11 becomes law with the changes to Section 1034 intact.

In a case which the author has handled, facts permitted Section 1034 benefits be available to both parties. Initially the husband moved from the home. The wife, while residing in the marital home during the pendency of the action, identified a home that she wished to buy prior to the sale of the marital home. She purchased it and moved from the marital home to her new home. The husband then moved back into the marital home, sold the marital I home, and moved to another home. Under the terms of Section 1034 this allowed each spouse to enjoy the benefits available under Section 1034.

There is, however, an additional problem that arises under Section 1034. Assuming that both spouses can meet the test that the home was their residence at the time they bought their roll-over residence, the sale of the original marital home is the sale of property subject to capital gain. The problem is best illustrated by the recent decision of the Court of Appeal for the Second District in California in Harrington v. Harrington, 8 Cal.Rptr.2d 631 (Cal.App. 2 Dist. 1992). The parties had, after a long term marriage, a substantial gain in their property — a profit of $480, 000.00. The parties agreed to divide it equally. Each of them bought another residence. The husband bought a residence for $251, 250.00, which meant that he had rolled over and did not have to recognize any gain. It was deferred under Section 1034. Within the same two year period, the wife purchased a condominium for $120, 000.00 and invested $5, 000.00 in improvements. Thus, she sheltered only $125, 000.00 of the $240, 000.00 gain. The wife faced a capital gain tax of $52, 000.00.

There are two tax problems arising from these facts. The Harrington court faced one of these, which was, who should pay what in terms of the tax on the gain. This can arise in two different ways. One is where the parties file separate tax returns and the question must be answered immediately. The second is when the parties file a joint tax return and must revisit the problem one or two years later. When the parties file a joint tax in the year they sold their original home, they are jointly liable for any tax due.

In Harrington, while the evidence was in dispute as to whether or not the husband advised the wife about the need for a roll over, the family accountant indicated that she was aware of her obligation for her share of the $240, 000.00 gain. Even though the husband had no tax due on his portion of the capital gain, the wife did. She brought the matter back to the trial court insisting that the husband should pay one-half of the $52, 000.00 tax. The husband took the position that he had fully sheltered his half of the gain and should not pay or owe any tax on the wife's half of the gain. Since the parties had filed a joint...