CDA Tax Implications of Divorce 3 — Questions and Answers
Question 1: When one spouse transfers appreciated property to the other as part of a divorce settlement, what are the immediate tax consequences?
- The transferring spouse recognizes capital gains on the appreciation
- No gain or loss is recognized by either spouse at the time of transfer (Correct answer)
- The receiving spouse must pay taxes on the fair market value received
- A gift tax return must be filed for all property transfers in divorce
Correct answer: No gain or loss is recognized by either spouse at the time of transfer
Under IRC Section 1041, transfers between spouses incident to divorce are tax-free; no gain or loss is recognized at the time of transfer.
Question 2: What carryover basis rule applies when property is received from a spouse as part of a divorce settlement?
- The receiving spouse takes a stepped-up basis equal to fair market value at transfer date
- The receiving spouse takes the transferring spouse's original adjusted basis (Correct answer)
- The basis is reset to zero and recalculated from the transfer date
- The IRS assigns a blended basis averaging original cost and FMV
Correct answer: The receiving spouse takes the transferring spouse's original adjusted basis
The recipient spouse takes over the transferring spouse's adjusted basis (carryover basis), meaning future gains include all prior appreciation.
Question 3: A couple sells their jointly-owned primary residence as part of their divorce. They lived there as their primary home for 3 of the last 5 years. How much capital gain can they jointly exclude?
- $250,000 total
- $500,000 total (up to $250,000 each) (Correct answer)
- $750,000 total
- No exclusion is available because of the divorce
Correct answer: $500,000 total (up to $250,000 each)
Married couples filing jointly can exclude up to $500,000 of gain on a primary residence sale, provided both meet the use and ownership tests.
Question 4: After divorce, one spouse retains the marital home and sells it two years later. They lived there as their primary residence for 4 of the last 5 years. What is their maximum capital gain exclusion?
- $500,000
- $250,000 (Correct answer)
- $0 — only available before the divorce is finalized
- $125,000 (reduced for filing single)
Correct answer: $250,000
A single taxpayer who meets the 2-of-5-year ownership and use tests can exclude up to $250,000 of gain from the sale of their primary residence.
Question 5: One divorced spouse receives the family home but cannot sell it for several years. In the meantime, the home depreciates in value. What tax planning concern should the CDA highlight?
- The receiving spouse can claim a capital loss deduction on personal-use property
- Capital losses on the sale of a personal residence are not deductible, so any decrease in value below the carryover basis is a permanent loss (Correct answer)
- The spouse can defer the loss by reinvesting in a new home within 180 days
- The IRS will allow a partial loss deduction if the property was used for any business purpose
Correct answer: Capital losses on the sale of a personal residence are not deductible, so any decrease in value below the carryover basis is a permanent loss
Losses on the sale of personal-use property (like a primary residence) are not deductible, so if the home is sold below carryover basis, the loss cannot be used to offset taxes.
Question 6: Which IRS provision governs the tax-free transfer of property between spouses or former spouses incident to divorce?
- IRC Section 1031 (Like-Kind Exchanges)
- IRC Section 1041 (Correct answer)
- IRC Section 121 (Home Sale Exclusion)
- IRC Section 1011 (Basis Rules)
Correct answer: IRC Section 1041
IRC Section 1041 specifically governs property transfers between spouses or former spouses incident to divorce, making such transfers non-taxable events.
Question 7: A divorcing spouse transfers stock with a basis of $20,000 and a fair market value of $80,000 to the other spouse. What tax consequence occurs for the receiving spouse when the stock is later sold for $90,000?
- Capital gain of $10,000 (sale price minus FMV at transfer)
- Capital gain of $70,000 (sale price minus carryover basis of $20,000) (Correct answer)
- No capital gain because the transfer was tax-free
- Ordinary income of $90,000 because stock received in divorce is fully taxable on sale
Correct answer: Capital gain of $70,000 (sale price minus carryover basis of $20,000)
The receiving spouse takes the $20,000 carryover basis, so selling at $90,000 triggers a $70,000 capital gain — including all appreciation that occurred before the transfer.
CDA Tax Implications of Divorce 3
When one spouse transfers appreciated property to the other as part of a divorce settlement, what are the immediate tax consequences?