Many divorcing couples face significant financial challenges, and taxes play a big role. One of the biggest tax implications that a divorcing couple faces is the change in filing status. Not getting this right could result in paying thousands (or tens of thousands) more than is necessary.
One of the best ways (other than filing a joint return) to lower your tax bill is to file as a head of household. However, not everyone can qualify for head of household status. This article aims to explore a little more about head of household status, so you can determine whether this is an option for you.
Why Does My Filing Status Matter?
Before we discuss head of household status, it’s important to look at the different options you might see on your tax return. These options include:
- Married filing jointly. If you’re married, you probably filed previous returns under this status (also known as a joint return). If you’re getting divorced, then this is probably not a likely option going forward. However, if you and your ex-spouse are separating under amicable conditions, it might be worthwhile to have your tax preparer run the numbers to see if this is feasible for you.
- Married filing separately. Most married couples who do not file joint returns will file as married filing separately (MFS). In most cases, filing a joint return benefits married couples much more than filing a separate return. Married couples filing separately generally:
- Pay a higher tax rate than joint filers at with the same income
- Have lose or have limited ability to take many credits or deductions
- Must include certain types of income that joint filers can exclude (such as interest income for U.S. savings bonds used for higher education expenses)
- Single. Most divorcing people will file under single status unless they qualify as head of household or as a widow. If your divorce is finalized before the end of the calendar year, you must file as single unless you qualify for another filing status.
- Head of Household. According to the IRS, “if you qualify to file as head of household, your tax rate will usually be lower than the rates for single or married filing separately. You will also receive a higher standard deduction than if you file as single or married filing separately.”
The rest of this article will focus on Head of Household status, and how you might qualify.
Head of Household Status
The IRS states: “In order to qualify for head of household status, you must either be unmarried or ‘considered unmarried’ on the last day of the year.” This begs the question, “What’s the difference?”
If your divorce is not finalized before the last day of the year, then you’re still legally married, right? Even if you’re technically married, you can still be ‘considered unmarried’ on the last day of the tax year, and qualify for head of household status, if you meet the following criteria:
- Filing a separate return. This includes either married filing separately, single, or head of household status. In other words, not a joint return.
- You paid more than half the cost of your home’s upkeep for the tax year.
- You and your spouse did not live in the same home for the last 6 months of the year.
- Your home was the main home of your child, stepchild, or foster child for more than half the year.
- You are able to claim the child as a dependent.
If you meet these criteria, you could file as either married filing separately or single (depending on what your marital status was on the last day of the year), or head of household.
Let’s imagine a divorcing mother who earned $100,000 in 2018. She has one child who has lived with her. She plans to take the standard deduction and all applicable tax credits. She meets the head of household criteria, but is trying to determine her options.
She can file as either single or MFS (depending on when her divorce is finalized). It turns out that in her case, both statuses end up with the exact same tax liability: $15,410.
However, if she were to file as head of household, her tax bill would only be $12,588—almost $3,000 less than filing single or MFS. First, she gets a larger standard deduction ($18,000 versus $12,000). Also, her marginal tax bracket stays at 22%, instead of creeping up to 24% under the other filing statuses.
In this case, our mother would be much better off to claim head of household status.
Do I Have To Be Divorced to Claim Head of Household Status?
Here’s where everything gets interesting. You do not have to be divorced to claim head of household status.
This is where the above criteria come into play. Even if you’re married (and possibly filing as MFS), you could file as head of household if you meet the IRS criteria for being ‘considered unmarried.’ However, you must meet the criteria.
Can both spouses claim head of household status?
There is nothing in IRS Publication 501, Dependents, Standard Deduction, and Filing Information that prohibits both spouses from being able to claim head of household status. However, each spouse must independently meet the criteria on their own. Specifically, each spouse must have:
- Paid more than half of each home’s upkeep (because they cannot live together for the last six months of the year). This presumes there are two separate residences, and that each spouse has sufficient income to support their own living expenses.
- A qualifying child who is a dependent, who has lived with that spouse for more than half the year. This presumes at least 2 children in the relationship, since one child cannot live with both spouses for more than half the year.
Assuming that each spouse independently meets the IRS criteria for filing Head of Household status, there is nothing that prevents both spouses from claiming it.
By their very nature, divorces force a couple into ‘win-lose’ negotiations. In most cases, one spouse gains at the other spouse’s expense. However, when it comes to taxes, a smart approach could lead to a lower tax bill for both spouses, resulting in more money in both sets of pockets.
Lawrence Financial Planning is here for you when you need us most. We will always give you professional advice and walk with you every step of the way. And if you’re ready to take the next step and work with a financial planner, you can learn more about how we work with clients right here.