Impact of the CARES Act on Divorce and Family Law Matters by Sandra Perez, CPA/ABV/CFF, CFE
Posted on April 29, 2020
Couples who were in the midst of a divorce or who were preparing to start the process are finding the COVID-19 pandemic has turned their planning upside-down and added more stress to an already difficult situation. While many individuals are continuing to follow through on their divorce plans, their financial pictures may have changed substantially from what they looked like as recently as just two months ago.
On March 27, 2020, the president signed into law the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) to provide more than $2 trillion in much-needed financial assistance to individuals and businesses suffering the social, economic and businesses impacts of the COVID-19 pandemic. Many of the provisions contained in the Act dramatically change existing tax laws, however, the IRS has been slow to issue guidance on how it will interpret and implement these measures and what impact they will have on divorcing couples’ current and future finances. Following is some important information about how the CARES Act can impact your divorce negotiations.
Refunds from Prior Year Net Operating Losses (NOLs)
The CARES Act amends the 2017 tax laws by allowing taxpayers to carry back NOLs incurred in tax years 2018 through 2020 to each of the preceding five years and removing the requirement that NOLs be limited to 80 percent of taxable income for those years. As a result of this provision, taxpayers may amend previously filed tax returns to report these losses, which likely will result in refunds. Depending on the status of your divorce, these refunds could be considered an additional marital asset to be divided, or they may serve as a source of funds for one party to pay overdue child support, spousal support or equitable distribution payments.
Maximizing Individual Economic Stimulus Payments
To provide immediate financial relief to families impacted by COVID-19, the CARES Act calls for the federal government to pay individual, single-filing taxpayers a recovery rebate of up to $1,200 when their adjusted gross income (AGI) is less than $99,000. For married couples filing joint tax returns, a recovery rebate of as much as $2,400 is available when 2018 or 2019 AGI is less than $198,000. An additional $500 stimulus payment is also available for each qualifying child who lives with the taxpayer.
If your divorce was finalized in 2019, it is likely that you and your ex-spouse have not filed your separate tax returns for that year yet, especially since the IRS postponed the filing deadline from April 15 to July 15. If this is the case, the IRS will look at your jointly filed 2018 tax return to determine the amount of recovery rebate to which you are entitled. If your combined marital income for 2018 exceeds the $198,000 married filing jointly income threshold, you will not qualify for any economic stimulus payment. If your combined marital income was between $150,000 and $198,000, you and your ex may receive a reduced payment. However, if you and your ex file separate tax returns for 2019, and your individual reportable income is less than $79,000, you will qualify to receive the full $1,200 in stimulus money.
Therefore, if you were divorced by Dec. 31, 2019, and you have a tax-filing requirement for 2019, it is best to file as soon as possible to ensure you receive the maximum amount of stimulus money to which you are legally entitled. If you do not have a tax-filing requirement, perhaps because your only source of income was non-taxable alimony, you should visit the IRS website at www.irs.gov to request your recovery rebate.
Hardship Withdrawals from Retirement Accounts
Under the CARES Act, qualifying individuals may take penalty-free early withdrawals from their retirement savings accounts to access needed funds. Because the law does not specify how retirement savers must use those dollars, one could argue that they could be used to maintain court-ordered child support and alimony payments. The maximum allowable amount you can withdraw from a 401(k), IRA or similar retirement plan without incurring a 10 percent penalty is $100,000.
Typically, retirement plan distributions are taxed in the year of the withdrawal. However, under the CARES Act, the IRS will treat these hardship distributions as taxable income over a three-year period, thereby minimizing the tax burden, unless account owners elect-out of this treatment. Moreover, account owners can avoid taxes altogether when they pay back distributions into their retirement accounts within three years. It is anticipated that these repayments will not count towards annual contribution limits in future years. Alternatively, the law allows individuals to take loans of up to $100,000 from their retirement plans and repay those amounts within five years.
It is important to note that to qualify for a penalty-free retirement plan early withdrawal, you must have been quarantined, laid off or furloughed; have your regular work hours reduced; or be unable to work due to business closure or lack of child-care services.
Modification to Existing Divorce Settlement Agreements
Florida law requires there to be a substantial, involuntary, material and permanent change in circumstances before considering requests for modifications to settlement agreements. Many people impacted by the coronavirus will not meet this standard since any reduction in income will be temporary, and the availability of penalty-free retirement distributions or loans may help them bridge the gap to keep support payments ongoing.
However, if you believe that your change in income due to the COVID-19 pandemic is a more permanent situation, you should consult with a qualified family law attorney to determine if and when to file for modification. Until that point in time, you are responsible for maintaining all your existing payment obligations. The court has discretion to modify support obligations back to the date of the modification filing but not typically any earlier than that point.
While it is unknown what the courts will do in this uncharted COVID-19 environment, payors would be wise to pay as much of their obligations as possible, even if it is a reduced amount. This can show a good faith effort and protect payors from being held in contempt until they can access funds from their retirement plans to unlock some much-needed cash flow or until the courts can hear their cases.
About the Author: Sandra Perez, CPA/ABV/CFF, CFE, is director of the Family Law Forensics practice with Berkowitz Pollack Brant Advisors + CPAs, where she serves South Florida’s tri-county area, working with attorneys and high-net-worth individuals with complex assets in all areas of family law proceedings, including providing expert testimony, preparation of financial affidavits, valuation of business interests, analyses of income, alimony, child support and equitable distribution, assistance in depositions, settlements and mediations and is also trained in Collaborative Family Law. She can be reached at the CPA firm’s Fort Lauderdale office at (954) 712-7000 or firstname.lastname@example.org.