Is a Divorce Settlement Taxable in Alabama?

Nik Fondren • Aug 24, 2023

Understanding Alabama Divorce Laws: Tax Ramifications of Settlements in Focus

Couples going through a divorce face numerous challenges, and one of those issues is the division of assets and liabilities. In addition, the tax consequences of a settlement must also be considered. For many years, the tax laws governing divorce settlements were clear and generally understood, but those old laws no longer apply. 


That means divorcing couples must review their settlement agreement to determine how today’s IRS and state regulations will impact their lives moving forward. Before signing an agreement, ask, “Can the IRS tax my divorce settlement?” A family court lawyer will work closely with a client to evaluate their situation to determine whether a settlement is subject to taxation. 


Dividing the Marital Property Fairly


Alabama residents are subject to equitable property distribution rules when going through a divorce. Equitable distribution doesn’t always mean dividing assets equally, and the courts consider several factors when dividing those assets. The court will look at the length of the marriage, financial contributions by each party, and the overall financial circumstances of both individuals. 


In most cases, Alabama’s laws don’t consider divorce settlements as taxable events. Couples are generally not required to report the transfer of real estate, bank accounts, and personal property as taxable events or include them on their tax returns. That’s a significant benefit to everyone involved, but there are exceptions to consider.


Alimony or Other Spousal Support


While not every divorce includes provisions for alimony or other forms of spousal support, many do. Until 2019, IRS regulations allowed the spouse paying that support to deduct the amount from their income when filing their taxes. Conversely, the spouse receiving payments was required to report those payments as income on their taxes. 


Today, that’s no longer true. Since the new regulations took effect, alimony and other forms of spousal support are tax neutral. In other words, the partner providing support can no longer deduct those payments from their taxes, and the partner receiving those payments does not report that amount as income. The IRS regulations apply all states, including Alabama. 


Child Support and Filing Taxes


Child support is generally contentious and frequently complicates settlements. Child support is designed to take care of the financial needs of a couple’s children post-divorce. As with alimony, child support payments are tax neutral and not deducted by the paying partner or included as income by the receiving partner. Again, the IRS regulations supersede former tax laws nationwide, including those in Alabama. 


Couples are strongly encouraged to work with legal and financial experts when designing a settlement agreement to ensure that child support payments are correctly classified and separate from alimony to avoid tax repercussions later. Usually, the partner providing the most support for children is entitled to claim those children as dependents on their taxes. However, federal and Alabama laws allow the parents to determine which one will claim any children as dependents on their taxes regardless of the level of financial support provided.


Retirement Accounts Complicate Divorce Settlements


Family lawyers always encourage clients to consider potential tax consequences when formulating divorce settlements, with retirement accounts being at the top of vital issues to discuss. Pensions, 401(k)s, and IRA accounts are often divided between divorcing couples, and how those accounts are divided will impact the taxes of the divorcing partners.


Family attorneys and other financial advisors caution that while there may not be immediate tax consequences when retirement accounts are split up, the receiving spouse will certainly face tax consequences when funds are withdrawn from the account. The parties are encouraged to consider all possible tax liabilities during the settlement process to ensure there are no surprises later.


In addition, some divorcing couples may find withdrawing retirement funds early is necessary following a divorce, and that step will also result in penalties that usually prove costly. Legal and financial professionals routinely discourage early withdrawals as the penalties are high. Avoid early withdrawals whenever possible. 


Selling Property and Dealing with Capital Gains Taxes


Another common issue during divorce settlement negotiations is real estate. The family home is generally the most valuable asset a couple has, and deciding how to deal with it is usually difficult. One or both spouses may wish to retain the home, and that’s especially common when children are involved. However, selling the home is often necessary to reach a settlement agreement. If the property is sold, capital gains taxes may present tax problems for the couple. 


Federal tax laws exempt a property from capital gains taxes if the couple has occupied the home for at least two of the five years immediately preceding the sale and used the property as their primary residence. The tax regulations exclude up to $250,000 of gains per individual or $500,000 per couple if those conditions are met. Of course, an attorney will always recommend reviewing the circumstances involved to ensure the couple qualifies for the exemption. 


Always Obtain Professional Advice to Minimize Any Tax Consequences


Far too many couples rush through the divorce process without adequately considering all the potential tax consequences, but that’s never a good idea. A family law attorney will work with a client to minimize any tax liabilities and plan for the future. Remember that decisions made today will have lasting consequences, so always consider long-term issues as well as short-term ones when negotiating a divorce settlement agreement. 


The first step is to select an attorney to provide the legal advice needed to navigate the settlement process. Family law attorneys work with clients to ensure their rights (and financial assets) are protected throughout the process. In cases where a limited number of assets are involved, the decisions involved may not be overly complicated. However, when significant assets are involved, and potential tax consequences must be considered, the process is far more complicated.


If you’re considering a divorce, now is the time to consult an attorney for advice. Obtaining the proper advice early often allows clients to avoid making costly mistakes during the divorce process and paying more taxes than necessary. Contact an attorney today to get the advice you need to move forward with your life. 


By Nik Fondren 09 May, 2024
Staying Secure: Navigating Privacy and Reputation Management During Divorce
By Nik Fondren 09 May, 2024
Exploring Paths to Parenthood: A Guide to the Various Adoption Processes
By Nik Fondren 08 May, 2024
Maximizing Impact: Strategies for Integrating Philanthropy into Your Estate Plans
By Nik Fondren 10 Apr, 2024
Methods to Prepare for Life's Biggest Decisions
By Nik Fondren 10 Apr, 2024
Protecting Your Assets and Your Loved Ones
By Nik Fondren 10 Apr, 2024
Nobody wants to be stopped by the police, even when they have done nothing wrong. If you are in this situation, knowing what to do can help reduce the stress associated with this encounter. Stay calm and never act hostile toward the officers. Know your rights and what to do so the situation doesn’t escalate. Know Your Rights Most people know they have the right to remain silent during an encounter with law enforcement. You may be required to provide your name, depending on state laws where the encounter occurs, but that is it. Firmly state you wish to remain silent and stop speaking. They cannot compel you to do so once you make this statement. Furthermore, if police stop you while driving, the right to remain silent applies to any passengers in the vehicle. Passengers might also ask if they can leave during this traffic stop. If officers say they may, they should do so quietly. The Fourth Amendment of the U.S. Constitution prohibits unreasonable searches and seizures. Law enforcement officers cannot search your person, home, or car without your permission unless they have a warrant. Have them produce this warrant so you can review it. However, officers may pat you down to check for weapons. They are permitted to do so for their safety. If the officers ask to search, say that you do not consent. They may conduct this search anyway, depending on the circumstances of the encounter. This verbal statement that you do not consent to the search may become important if authorities file charges against you. When officers enter the home, they may not search without your permission or a search warrant. If they arrest you at home or work, they have the right to search the immediate area or anywhere they can see criminal activity. Pay attention to what they do throughout this search to confirm they conduct it properly and don’t overstep their bounds. Every person has a right to a criminal defense attorney in Cullman, AL . Request a government-appointed attorney if you cannot afford to hire a lawyer. Let the officers know you would like to make a phone call. They cannot listen to any calls between you and an attorney, but they have the right to listen to all other calls you make. The officers can tell you how to request a government-appointed attorney if one is needed. Handling Police Encounters Safely During any encounter with the police, stay calm. Never volunteer information, even if it seems harmless. Use your right to remain silent or only answer direct questions, never offering additional information when doing so. Never argue with officers or bad-mouth them, as doing so could change the whole tone of the interaction. If officers attempt to pull you over while you are driving, continue operating the vehicle until you reach a place where it is safe to stop. Never stop in the middle of the road or impede traffic, as doing so puts you and the officer at risk of harm. When the vehicle is stopped, remain in the car, turn on the interior light, and put your hands where the officer may see them. Ask passengers in the vehicle to show their hands as well. Provide any documents requested by the officer during this traffic stop. They may ask to see your driver’s license, registration, and proof of insurance. Before collecting these documents, let the officer know where they are located. Reaching into a glove box or under the seat may appear to be a threatening move to the officer. Letting them know that is where the documents are and that you aren’t reaching for a weapon can help to reduce tension. Never run from a police officer. Also, do not touch the officers, as any touch could be construed as threatening in a volatile situation. If officers arrest you, go willingly. Don’t resist or become combative. Doing so could make a bad situation worse. Common Misconceptions People often believe they must consent to a search or take a breathalyzer test. They feel they are required to answer questions when asked by law enforcement. A person doesn’t have to say or do anything when stopped by the police. Failing to answer questions or consent to a search may result in a trip to the police station. Let this happen and contact an attorney with your one phone call. While the trip to the station is an inconvenience, it will probably be a short-lived one once your attorney arrives. They will work to get the matter resolved and have you released quickly. Protecting the Rights of Others You may find yourself in a situation where law enforcement is handling a matter involving another individual and you are merely a bystander. Help each other out by observing this interaction and recording it if possible. Try to capture officers’ badges and patrol car numbers with the video to show who was involved beyond what can be seen in the video. Also, ask witnesses to state their names and contact information on the video. They may need to share what they saw with authorities. If the situation is mishandled in any way, contact the internal affairs department of the law enforcement agency, so they may handle the matter. In addition, share the video with the attorneys of all parties involved in the interaction if problems arise. When law enforcement officers know they will be held accountable for their actions, fewer problems typically arise during a stop or other interaction. Law enforcement officers cannot stop bystanders from recording their interactions with individuals. However, the person taking the video must not interfere with police activity in any way. If you wish to record an interaction, do so from a safe distance. Don’t hide the fact you are recording, as police officers know they do not have any expectations of privacy while on the job. However, you may need to ask those interacting with the officers if they wish to be recorded. State laws vary on whether permission is needed so it is always better to ask. A person may come into contact with law enforcement multiple times throughout their life. All parties are responsible for what happens in each interaction. Know your rights and how to handle these interactions safely and legally. Everyone must work together to keep our country safe while ensuring our rights remain protected. This is not a job for one person alone.
By Nik Fondren 07 Feb, 2024
Selecting the Right Executor: Essential Tips for Your Will
By Nik Fondren 07 Feb, 2024
Ensure your Journey Through Divorce is as Smooth as Possible
By Nik Fondren 07 Feb, 2024
Steps to Take to Ensure your Family's Security
By Nik Fondren 07 Feb, 2024
Finding the Right Path to Take When Your Marriage Comes to a Close
More Posts
Share by: