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Tax Relief for the Injured or Innocent Spouse

If your client and the other spouse file a joint tax return while the divorce is pending in order to obtain more favorable tax treatment, it is important to understand that generally both parties are jointly and severally liable for any mistakes or omissions on the return. If you or your client discovers that the other spouse was hiding assets or otherwise filing a fraudulent return, unbeknownst to your client, or if the tax refund is applied to an overpayment as a result of a legal obligation of the other spouse, your client may be able to obtain relief.
 
Injured Spouse
 
A taxpayer may be able to obtain relief as an injured spouse on a jointly filed tax return when any overpayment of taxes was, or is expected to be, offset by the other spouse’s legally enforceable past-due obligation(s). Such obligations include past-due federal tax, state income tax, child or spousal support, or a federal nontax debt, such as an unpaid student loan.
 
An injured spouse must file IRS Form 8379 to obtain injured spouse relief. The injured spouse must be able to prove that he or she is not legally obligated to pay the past-due amount AND (if not in a community property state) the injured spouse made or reported payments, such as income tax withholding from wages or estimated taxes, or claimed a refundable credit, such as the earned income credit. Form 8379 may be filed with the joint tax return or amended joint tax return, or it can be filed after the joint return. All applicable paperwork included with the joint return, plus any necessary additional information, must be attached.
 
Innocent Spouse
 
An innocent spouse is a person who believed that his or her spouse or former spouse should be held responsible for all or part of the tax from a joint tax return (or in community property states, even for married couples filing separately). A request for innocent spouse relief is made by filing IRS Form 8857. Form 8857 should be filed as soon as the innocent spouse becomes aware of the tax liability allegedly owed only by the other spouse. However, Form 8857 MUST be filed within two years after the first IRS attempt to collect the tax from the innocent spouse.
 
There are three types of relief for an innocent spouse: 
 
1.   Innocent spouse relief. The following items are required in order to obtain relief:
  • An innocent spouse must have filed a joint return for the year(s) in question (unless it is a community property state).
  • There is an understated tax on the return due to erroneous items of the other spouse.
  • The innocent spouse shows that he or she did not know, and has no reason to know, that the understatement existed at the time the joint return was signed, and
  •  Considering all of the facts and circumstances, it would be unfair to hold the innocent spouse liable for the understated tax.
2.  Separation of Liability Relief. The innocent spouse may be allowed separation of liability relief if the other spouse is deceased or the innocent spouse and the other spouse are now divorced, are now legally separated, or have lived apart at all times during the 12-month period prior to the date the joint return was filed.
 
This provision will often be used for joint returns filed while a divorce or separation agreement are pending or for jointly filed returns by the parties during the time period of their separation prior to seeking a divorce or legal separation, which is quite common. Under this provision, the innocent spouse has the burden of showing how much of any understated tax is traceable to him or her. Also, the innocent spouse must elect this type of relief.
 
3.  Equitable Relief. If neither provision above is available, equitable relief may be permitted if both of the following conditions are met:
  • The parties have an understated or underpaid tax, and
  • The IRS determines that it would be unfair to hold the innocent spouse liable for the understated or underpaid tax.

 Innocent Spouse Residing in a Community Property State 

If your client resides in one of the community property states of Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, or Wisconsin, the rules for innocent spouse relief are somewhat different. Generally, in a community property state, both spouses are entitled to one-half of the total marital income and expenses. However, concerning joint and several liabilities on a joint federal tax return, community laws are not taken into account, and the methods of obtaining relief listed above apply.  Also, a spouse in a community property state may be entitled to relief as an innocent spouse even if no joint return was filed.

In order to obtain relief from liability arising from community property law, an innocent spouse must meet ALL of the following conditions: 

  • No joint return was filed,
  • The alleged item was not included in gross income on the separate return,
  • The item was income that belonged to the other spouse or former spouse
  • The innocent spouse did not know, or have reason to know, of the item, and
  • Under all of the facts and circumstances, it would not be fair to include the item in the innocent spouse’s gross income.  
Alternatively, if an innocent spouse in a community property state does not meet the above conditions, he or she may request equitable relief, as described above.
 
Conclusion
 
As you can see, it is not a simple process to obtain relief as an injured or an innocent spouse. However, it is important to understand that these types of relief do exist. If you discover hidden assets, attempts to commit fraud, or the underpayment of legally required obligations, it is important to assist your client in obtaining all necessary documentation before seeking injured or innocent spouse relief. If you are unaware of these requirements, you may cause your client to miss the filing deadlines, or your client may not be able to obtain the necessary documents once the divorce is finalized.
 
References:
 
Your Federal Income Tax for Individuals (2007) (IRS Pub. 17)
Innocent Spouse Relief (2007) (IRS Pub. 971)