Divorce settlement tax treatment

A divorce settlement isn’t a single taxable event. It combines several financial components, each with its own tax implications. Property transfers, spousal support, child support, and division of retirement accounts are all treated differently under the tax code.

The Tax Cuts and Jobs Act (TCJA) of 2017 significantly changed how alimony is treated, applying new rules to divorces finalized on or after January 1, 2019\. However, the law left most other elements of divorce taxation, like property transfers and child support, unchanged. Understanding these distinctions helps both parties structure settlements that reflect their true after-tax value.

Property division: generally tax-free transfers

When property changes hands as part of a divorce, it usually isn’t treated as a taxable event. The IRS allows most transfers between spouses or former spouses to occur tax-free, though future sales of those assets may trigger capital gains based on the original purchase price.

IRC Section 1041: tax-free property transfers

Internal Revenue Code Section 1041 states that property transfers between spouses, or between former spouses if “incident to divorce,” are generally tax-free. Neither spouse reports a gain or loss when transferring property as part of the divorce. Instead, the receiving spouse takes ownership at the original cost basis, meaning taxes apply only when they later sell the property.

“Incident to divorce” requirement

For property transfers to remain tax-free, they must occur within the specific defined timelines identified for the type of transfer, generally within a year of the final divorce decree. Although some transfers directly related to the divorce can transfer tax free for up to 6 years. Transfers outside those time limits may lose tax-free status and trigger capital gains tax. A tax professional can help make the distinction so you avoid costly mistakes.

Tax basis transfer rules

The recipient inherits the transferring spouse’s original tax basis, known as “carryover basis.” For example, if a home was purchased for $150,000 and is worth $300,000 at the time of transfer, the receiving spouse’s tax basis remains $150,000. If that spouse later sells the home, capital gains will be calculated from that original amount.

Alimony and spousal support tax treatment

The tax rules for alimony, or spousal support, depend on when your divorce was finalized. The law changed in 2019, creating two different systems that apply depending on your case date.

Pre-2019 divorces: old tax rules

For divorces finalized before January 1, 2019, alimony payments remain tax-deductible for the paying spouse and taxable income for the receiving spouse. These rules can still apply to older agreements unless the parties modify the divorce decree to follow new tax treatment voluntarily.

Post-2018 divorces: new tax rules

For divorces finalized on or after January 1, 2019, alimony is not deductible for the payer and not taxable for the recipient. This change simplified reporting but removed a key incentive that previously encouraged higher payment amounts during negotiation.

Requirements for alimony tax treatment (pre-2019)

Under the pre-2019 system, several conditions had to be met for alimony payments to qualify for tax treatment:

Child support: never taxable or deductible

Child support has one of the simplest tax rules in divorce law. Payments are never considered taxable income for the parent who receives them, and the parent who pays cannot claim them as a tax deduction.

Child support tax rules

Child support is not taxable to the receiving parent and cannot be deducted by the paying parent. This rule has always been consistent under federal tax law and continues to apply regardless of divorce date.

Distinguishing child support from alimony

It’s important that settlement agreements clearly separate alimony and child support. Mislabeling payments could lead to IRS disputes, especially for pre-2019 divorces where alimony was deductible. If a payment is linked to a child-related condition (for example, it stops when a child turns 18), the IRS treats it as child support.

Dependency exemptions and child tax credits

In most cases, the custodial parent claims the child as a dependent and receives related tax credits. However, parents can agree to let the non-custodial parent claim these benefits by signing IRS Form 8332 and including it with their tax returns.

Multiple support considerations

When both parents contribute financially, the custodial parent generally receives the tax benefit unless the divorce decree states otherwise. Clear documentation can avoid confusion during tax filing.

Legal fees and divorce costs

Legal expenses in divorce can add up quickly, and most of them aren’t tax-deductible. The IRS considers costs related to obtaining or negotiating a divorce as personal expenses, not business or income-producing ones.

Generally non-deductible legal fees

Attorney’s fees for representation in divorce, property division, or child custody disputes can’t be deducted on your tax return. These costs are treated as personal and unrelated to income generation.

Exception for tax advice

The one narrow exception involves fees paid for tax-related advice or for collecting taxable alimony income (for pre-2019 divorces only). To claim this deduction, the portion of your attorney’s bill covering tax advice must be clearly itemized and documented.

Filing status and tax returns

Your marital status on December 31 determines your filing status for the entire tax year. If your divorce is final before that date, you’re considered unmarried for the full year.

State tax considerations

Tax treatment of divorce settlements is largely consistent across the United States, but some states have unique rules that may differ from federal law.

State-specific rules

Most states follow federal standards for alimony, property division, and child support taxation. However, others may treat spousal support differently or impose their own reporting requirements. Checking with a tax professional familiar with your state’s laws can help you stay compliant.

Community property states

If you live in a community property state, such as Arizona, California, Texas, or Nevada, marital assets and income are generally split equally between spouses. This can affect property division, basis calculations, and how income earned during marriage is reported on each person’s tax return.

Strategic tax planning in divorce settlements

Taxes can significantly influence the real value of a divorce settlement. Understanding how each asset and payment type is taxed helps you negotiate smarter and avoid costly surprises later.

Common tax mistakes in divorce settlements

Even small oversights can lead to significant tax consequences later. Here are some of the most frequent errors:

Failing to obtain proper QDROs

If retirement accounts are divided without a Qualified Domestic Relations Order (QDRO), the transfer may be treated as a withdrawal, triggering income tax and early withdrawal penalties.

Ignoring tax basis in property division

Dividing assets without considering tax basis can result in unequal outcomes. A spouse receiving low-basis property could face large capital gains taxes later, even if asset values seem equal on paper.

Misunderstanding alimony tax rules

Confusion about pre- and post-2019 alimony rules can lead to unexpected liabilities. Always confirm which rules apply to your specific divorce date before filing taxes.

Not addressing existing tax liabilities

Joint tax debts should be clearly assigned in the divorce decree. Even if your spouse agrees to pay, the IRS can still pursue both parties if taxes remain unpaid.

How Marble can help

Divorce settlements often involve financial complexity that can benefit from legal guidance. Marble connects individuals with licensed family law attorneys who can help explain how tax implications may affect divorce terms, property division, or support arrangements. Attorneys working with Marble can also coordinate with financial professionals to ensure settlements are structured in compliance with both state and federal tax laws.

Marble’s transparent pricing and step-based service model make it easier to understand costs upfront while receiving professional support throughout your case. This approach can help you move forward with confidence in both your legal and financial decisions.

Conclusion

Whether your divorce settlement involves property, support payments, or retirement accounts, each element carries its own tax rules. Property transfers between spouses are generally tax-free, alimony is no longer taxable for post-2018 divorces, and child support is never taxable or deductible.

Understanding these distinctions can help you negotiate fairer terms and avoid future tax issues. Because every situation is different, consulting with a family law or tax professional can help ensure your settlement is structured in a way that protects your financial future.