28 July 2015
A long time ago, in a galaxy far, far away...
Nearly everyone got married, settled down, had a few kids, and stayed together forever. That's how the story goes, anyway. That 'traditional' model still happens, but in the world I woke up in this morning things are very different for many people. Sometimes parents never marry. Sometimes they divorce. Sometimes they remarry. Sometimes they don't. One thing remains constant, though - regardless of our personal circumstances we are required to pay taxes on income, and a complex personal situation can add complexity to an income tax return.
To demonstrate this I am going to tell you a true story from right here in Virginia Beach. I did the 2014 tax returns for these folks. I have changed the names to protect their privacy.
Jerry and Janet are married - just not to each other. Jerry separated from his wife in 2012 and Janet separated from her husband in 2013. Jerry and Janet lived together for all of 2014 with their 5 children - all minors. Two are Jerry's from his marriage, three are Janet's from her marriage. Jerry had wages of about $30,000 in 2014. Janet worked part-time and had wages of about $9,000. They asked me if I could help them find the most advantageous way to file their taxes.
Despite the fact they were both still married the IRS has a provision that allows them to be considered unmarried for tax purposes. They both met the requirements for that provision, and there were no legal constraints in place, so we didn't have to consider their soon-to-be-former spouses for tax purposes in 2014. They could both be single, however, Jerry paid for more than half the upkeep on the home (and his children lived with him), so he could file as Head of Household. Janet's income was below the filing threshold, and she was not required to file. However, she had taxes withheld from her pay and her earned income gave her the potential for some refundable tax credits, so it was in her best interests to file. She did not pay for more than half the upkeep of the home, so she filed as single. Now, what to do about all those kids?
There were basically two ways to go:
1) Jerry could claim all five of the children as dependents on his tax return. His two natural children are his qualifying children under IRS rules. He could also claim Janet's three children as qualifying relatives because they lived with him ALL year AND he paid for more than half their support AND because Janet would only be filing to get back the taxes that had been withheld from her paychecks. Janet cannot claim the refundable credits in this scenario, but Jerry would have 6 exemptions (himself plus the 5 kids).
2) Jerry claims his two children on his tax return and Janet claims her three children on her tax return. Janet CAN claim the refundable credits in this scenario.
Both situations are permissible under the law. Jerry and Janet were interested in receiving the largest combined refund, so I calculated their taxes both ways. As it turned out, it was more beneficial for Janet to claim her three children on her return. Jerry's tax bill was slightly higher that way, but the refundable credits Janet received more than compensated for Jerry's lost exemptions
Modern blended families can be complex. In an effort to keep up with every possible situation the IRS rules for dependents, exemptions, and tax credits are just as complex. If you have a blended situation you may have multiple legal ways to file. If you want to find the one that is most beneficial to you, come see me. We'll figure it out.