Tax, legal, or both?

[Catherine]

Divorced client tells me (in advance - hooray!) of her plans to sell (in 2024) the house she got in the divorce that was final in 2023. She asked about tax repercussions of that plus some other queries. In response I asked if she bought him out, or if there was an agreement to share proceeds of the sale. 

Neither! She got the house and in exchange he got more of their investment assets. Total value of assets was the same. 

My first thought is that she gets 100% of the gain with only $250k exclusion and no step-up for "his" portion of the house. But that's just a first thought. Pub 504 and Code Section 1041 talk about basis in the property being the same as if it was a gift from one spouse to the other, with nothing about any step-up even being possible. Yet that seems to leave her with a bigger tax bill than he'll have from their investments. Making me wonder if I should be asking if there was anything in the divorce agreement that talks about equalizing basis. 

Any advice/references/thoughts for me?

[jklcpa]

11 minutes ago, Catherine said:

My first thought is that she gets 100% of the gain with only $250k exclusion and no step-up for "his" portion of the house.

^^  This!  Your client's basis is now the basis she and former spouse had as a joint couple, and there is no step-up. She is now selling as sole owner so the exclusion is only the $250K, assuming she meets the requirements for the full exclusion she is allowed.

[BulldogTom]

I agree with Judy (which is almost always the case!).   

I don't know that he will be better off if he took investments at the same value because we don't know the basis of the investments that he got.   But for sure she gets full basis in their combined hands to calculate the gain and then 250K tax free of that gain.   I don't see him getting 250K tax free gain from the investments.  It could be her lawyer got her a better deal because the investments are very low basis and he will have a bigger tax bill because of it.   

If it was my client, I would stay out of questioning the divorce settlement.   She had a lawyer to protect her interests and what came out of that is now fact.   Looking back at the divvy up of assets will only run you down a rabbit hole you have no business sniffing around.   

Not telling you how to run your practice, but I am telling you how I would run your practice, because, well, you asked.....

Tom
Longview, TX

[Lion EA]

They don't come to us before. Before the divorce. Before dividing assets. Before dividing children. Even my own son left all his tax return copies that I uploaded to my portal for him to give his lawyer, so his lawyer saw nothing about their partnership, nothing about the tax returns before his ex quit working, nothing about all the monies they took out of his Roth to run the partnership and to live off while the ex's TIRA kept growing, nothing. Sorry, tired and cranky today!

[Catherine]

On 5/17/2024 at 3:54 PM, BulldogTom said:

I would stay out of questioning the divorce settlement.

Not questioning the settlement per se, but rather if there is something IN the settlement where, for example, his larger share of investments was designated as because she was getting the house. If there is wording specifically stating the house as his reason for getting more investments, that could be a de facto purchase of his part of the house, increasing her basis.  

TIA to all for answers; I'm just going to tell her she gets to exclude $250k, their joint basis from purchase, plus any major upgrades done while they/she owned the house.

[Lion EA]

Dividing up marital assets in a divorce is NOT buying an asset at FMV from your soon-to-be ex.

[Catherine]

14 hours ago, Lion EA said:

Dividing up marital assets in a divorce is NOT buying an asset at FMV from your soon-to-be ex.

This is very true. But I have also seen divorces where there was a specific buy-out clause put in the agreement, as well as money that changed hands in accordance with that clause. I forget why it was done that way, though, as it was some years ago. That does not seem to be the case here.

[jklcpa]

29 minutes ago, Catherine said:

This is very true. But I have also seen divorces where there was a specific buy-out clause put in the agreement, as well as money that changed hands in accordance with that clause. I forget why it was done that way, though, as it was some years ago. That does not seem to be the case here.

It may be written as a "buy-out" but is still merely a dividing of marital assets where the dividing of cash is either not exactly equal and is used to balance out the other asset values being unequal, or it is for some other reasoning so that both parties will agree to settle. 

[Catherine]

On 5/20/2024 at 3:28 PM, jklcpa said:

or it is for some other reasoning

The one way back was a very weird case - but all it takes is one weird case and you end up over-thinking and wondering if the new situation is analogous to the older weird one. 

Thanks to all for responses.

[DANRVAN]

On 5/17/2024 at 12:26 PM, Catherine said:

that seems to leave her with a bigger tax bill than he'll have from their investments.

Do you know that for sure?  She gets a $250,000 exclusion off the top from the sale of the house while he pays on 100% of the gain from his extra share of the investments.

 

On 5/17/2024 at 12:26 PM, Catherine said:

Making me wonder if I should be asking if there was anything in the divorce agreement that talks about equalizing basis. 

She got her share of the assets as negotiated and related basis, it is now a done deal.

Some pre-divorce tax planning might have resulted in a better tax outcome for her.

They could have wrote a 121(d)(3)(B) exclusion into the settlement (and that might have been more to his advantage than hers), but to late to buy that ticket since the train has left the station.