Do you pay capital gains taxes on assets transferred in divorce?

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Property division in divorces often involves the transfer of assets from one spouse to the other. Your spouse may give you their share of the family home while you give them a chunk of your stock portfolio, for example. If those assets have increased in value over the years, will you be stuck paying capital gains taxes on them? 

Fortunately, the Internal Revenue Service (IRS) gives divorcing couples a break. It doesn’t recognize any capital gains (or losses) on property that is transferred “incident to the divorce.”

What does “incident to the divorce” mean?

The time period “incident to the divorce” is typically 12 months from the date of the divorce decree. For simplicity, any asset transfers between former spouses during that period are considered Section 1041 transfers. That means neither person has to provide documentation that the transfer was part of the property division agreement.

What about more complicated asset transfers that may not be completed in the first year after divorce? Sometimes, property, land, businesses and other complex asset transfers can take more time to finalize.

Under Section 1041, any transfer between former spouses finalized between one year and six years after the divorce decree is also not considered a capital gain or loss for tax purposes. However, the asset in question must be in the divorce settlement or any documented modification to it.

If you’re going to be dividing valuable and/or complex assets with your spouse as you divorce, it’s a good idea to have a financial professional and perhaps also a tax advisor. Don’t rely on the people who have been advising you and your spouse during your marriage. No matter how qualified they are, it’s crucial to have independent advisors with no conflicts of interest. They can help you and your legal team make the best short- and long-term decisions as you divide your property.

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