Continuing with the theme of how I employ tax planning in my advisory practice (part of AdvisorOne’s Special Report, 22 Days of Tax Planning Advice for 2012), in this post we’ll examine a few implications surrounding a taxpayers filing status, which is usually determined by their standing on December 31 of the tax year. One exception occurs when a spouse dies before year end. If so, the surviving spouse may optimize their tax savings by filing as a Qualified Widow(er). Hence, if you are reviewing a client’s most recent tax return and notice this status, you might ask to read the deceased’s will. You might also determine if any postmortem tax planning is warranted.
Married Filing Separate (MFS)
It is generally held that in a community property regime, married couples will fare better when they file Married Filing Jointly (MFJ). However, in a non-community property state, it may make sense to file MFS in certain situations.
For example, let’s assume both spouses work, there is a rather large discrepancy in income (e.g.; one spouse’s income is small), and there are a number of “AGI sensitive” deductions in play. In this case, choosing MFS could prove beneficial. Why? Because the spouse with the lower income will have a lower AGI and may be able to claim deductions otherwise lost. These deductions include, but are not limited to, unreimbursed business expenses which are subject to a 2.0% AGI floor and medical deductions which are subject to 7.5% of AGI. On the flip side, choosing this filing status may limit other tax benefits such as the credit for child and dependent care expenses and various education deductions. Therefore, caution should be taken.
This filing election may also be an indication of an impending divorce.