Press Release

Love, Marriage and Civil Unions, CCH Outlines What Same-sex Couples Need to Consider at Tax Time

Partners’ Filing Status Varies Federal to State, and State to State

(RIVERWOODS, ILL., February 11, 2011) – Whether opposite-sex or same-sex marriage, civil union or domestic partnership, your relationship can have tax consequences, according to CCH, a Wolters Kluwer business (CCHGroup.com).
 

These tax consequences can be both beneficial and detrimental. And, for many people – particularly those in same-sex partnerships – they can just be confounding, as federal law does not recognize same-sex marriages or civil unions while a growing number of states do. As a result, these couples often find they need to complete taxes one way for their federal income tax returns and another for their states tax returns.
 

“When a couple has joint property or has children or where spouses are earning significantly different income and paying different bills, it can get very complicated trying to allocate and report this separately for tax purposes,” said CCH Principal Federal Tax Analyst Mark Luscombe, JD, LLM, CPA.
 

Below CCH outlines some of the tax perks and pitfalls for same-sex couples.
 

Federal Tax Considerations

The Defense of Marriage Act (DOMA) of 1996 defines marriage as a union between a man and a woman. This precludes same-sex partners from being recognized as spouses under the Internal Revenue Code.
 

As a result, same-sex couples cannot file their federal tax returns jointly – even if recognized as married by their state. Rather, each partner must file as single or as head of household.
 

The tax consequences of this can be good or bad, depending on a number of factors.
 

For example, the income levels for joint filers in the 10- and 15-percent tax brackets are at least twice as high as they are for single filers, providing married couples some relief, which same-sex couples can’t take advantage of as single filers. But, above that level, some married couples may find themselves paying more in taxes, depending on who earns the income and the credits and deductions available to them.
 

Couples who must file separately can use this to their advantage. For example, shifting interest income from a joint brokerage account to the lower income earner and moving joint deductions, such as eligible charitable contributions, to the higher income earner.
 

Income shifting for same-sex partners, however, may be limited in states with community property laws that recognize domestic partnerships (California, Washington and Nevada). Community property rules generally require that earned income be split equally between marriage partners for both federal and state taxes. The IRS has issued internal guidance indicating that the community property rules of the state will be applied to domestic partners where the state applies the rules to domestic partners. The fact that the IRS does not recognize same-sex partners makes this even more confusing: they must file separately, but it appears that they will be required to claim the income 50-50.
 

“Many people will want to have a tax professional help them with these returns as it is complicated, and it’s a good idea to provide an explanation with both partners’ tax returns when they’re filed,” said Luscombe.
 

Lower income couples not recognized as married under federal law may also be able to lower their taxes by filing separately. For example, the separate incomes of two parents each with children could make them eligible for credits like the earned income tax credit (EITC). However, their combined income as a married couple could mean they would no longer qualify for the EITC, which for 2010 provides a refundable credit of up to $5,666.
 

Not being recognized as a couple for federal tax purposes could be an advantage when selling appreciated property. For example, because a same-sex couple is not seen as related under federal tax law, one partner can sell an asset to a second partner under a deferred gain sale. That partner can then sell it to a third party with the initial partner not realizing the gain for many years into the future, based on the terms of the sale from the first to second partner.
 

There also are some clear disadvantages for couples who are not able to file jointly. For example, a spouse is automatically a “dependent” for tax purposes, providing a $3,650 (for 2010) and $3,700 (for 2011) exemption to joint filers. Being recognized as a spouse also means that benefits, such as employer-paid healthcare coverage, which covers the worker, their children and/or their spouse, is tax-free.
 

For same-sex couples – particularly those with children – not being able to recognize this benefit as tax-free is quickly confusing.
 

“The taxpayer would need to determine what portion of the coverage should be allocated to themselves and their children and how much to their partner, and then pay taxes on that portion,” said Luscombe. “There’s no easy or clear-cut formula for doing this.”
 

Tax laws for pensions and inheritances also favor traditional marriages as a surviving spouse in a two-sex marriage can inherit a husband’s or wife’s estate without any federal estate tax. However, in any other relationship, federal estate taxes would apply.
 

State Tax Considerations

While same-sex couples can’t file their federal tax returns jointly, they can file jointly in a few states.
 

Currently, five states and the District of Columbia, allow same-sex marriages: Connecticut, Iowa, Massachusetts, New Hampshire and Vermont. With the exception of New Hampshire, which has no broad-based income tax, all of these states allow same-sex couples to file joint state income tax returns.
 

An additional 10 states with civil union or domestic partnership laws have varying rules: California, Colorado, Hawaii, Illinois, Maine, Nevada, New Jersey, Oregon, Washington and Wisconsin. Three of these states allow same-sex couples to file state income tax returns jointly: California, Oregon and New Jersey. However, four other states do not allow joint filing for these couples: Colorado, Hawaii, Maine and Wisconsin. Nevada and Washington do not have state income taxes and Illinois’ civil union law goes into effect for 2011, so it does not affect 2010 Illinois tax returns.
 

Another provision under DOMA provides that individual states are not required to recognize same-sex marriages performed under another state’s law. Currently, only Maryland, New York and Rhode Island recognize same-sex marriages performed in other states. None of these states allows same-sex couples to file joint state tax returns.
 

State
 


 

Same-sex Partnerships
 


 

Allows Joint
State Filing

 


 

California
 


 

Civil union / domestic partnership
 


 

Yes
 


 

Colorado
 


 

Civil union / domestic partnership
 


 

No
 


 

Connecticut
 


 

Marriage
 


 

Yes
 


 

District of Columbia
 


 

Marriage
 


 

Yes
 


 

Hawaii
 


 

Civil union / domestic partnership
 


 

No
 


 

Illinois
 


 

Civil union / domestic partnership
 


 

N/A for 2010
 


 

Iowa
 


 

Marriage
 


 

Yes
 


 

Maine
 


 

Civil union / domestic partnership
 


 

No
 


 

Maryland
 


 

None; recognizes other states’ unions
 


 

No
 


 

Massachusetts
 


 

Marriage
 


 

Yes
 


 

Nevada
 


 

Civil union / domestic partnership
 


 

No state income tax
 


 

New Hampshire
 


 

Marriage
 


 

No state income tax
 


 

New Jersey
 


 

Civil union / domestic partnership
 


 

Yes
 


 

New York
 


 

None; recognizes other states’ unions
 


 

No
 


 

Oregon
 


 

Civil union / domestic partnership
 


 

Yes
 


 

Rhode Island
 


 

None; recognizes other states’ unions
 


 

No
 


 

Vermont
 


 

Marriage
 


 

Yes
 


 

Washington
 


 

Civil union / domestic partnership
 


 

No state income tax
 


 

Wisconsin
 


 

Civil union / domestic partnership
 


 

No
 


 

“Generally, only in states where same-sex partnerships are recognized and they are allowed to file jointly, do partners realize some of the tax advantages of being a couple,” said Luscombe.
 

For example in New Jersey, the surviving domestic partner is exempt from the state’s inheritance tax. But that’s not the case in every other state. Often times, such as with estate and gift taxes, state rules are based on federal rules. As a result, same-sex couples often not only have to prepare separate federal income tax returns but also prepare a pro forma federal tax return as a married couple so that they can calculate their state tax and complete that return.
 

About CCH, a Wolters Kluwer business

CCH, a Wolters Kluwer business (CCHGroup.com) is the leading global provider of tax, accounting and audit information, software and services. It has served tax, accounting and business professionals since 1913. CCH is based in Riverwoods, Ill. Wolters Kluwer is a leading global information services and publishing company. Wolters Kluwer is headquartered in Alphen aan den Rijn, the Netherlands (www.wolterskluwer.com).