Who Divorces For The Tax Break?

by Patrick Appel

A reader writes:

An even more interesting issue regarding taxes is who divorces for tax benefits. There are a number of cases in which married couples saw that being divorced was beneficial for tax purposes. See, e.g., Boyter v. Commissioner, 668 F.2d 1382 (4th Cir.1981); Rev. Rul. 76-255. The tax laws only care if you are married at the end of the year, so people would get divorced in the end of December for tax purposes and then remarry in January only to get divorced again at the end of the year, again for the tax benefits.

The courts saw through this problem and applied a tax doctrine called the sham tansaction doctrine to divorces. The sham transaction doctrine can invalidate a supposedly legitimate business transaction if the transaction has no real economic substance other than the tax consequences. Here, the courts said that the divorce was a sham entered into solely for tax purposes and was thus not recognized by the federal government. 

The idea that people do not make these kinds of life decisions for tax purposes is clearly disproven by the above litigation. Congress knows about these issues because, since they were worried about the tax code disincentivizing marriage, they changed the Internal Revenue Code so that tax benefits would benefit married people over unmarried people. Just last week, Rep. Bob Goodlatte of Virginia entered a bill to eliminate the entire tax code, stating that any replacement code should not "penalize marriage and families." It is common knowledge that people decide whether to marry or divorce based on economic (including tax-related) benefits. Why are people still pretending these cases do not exist?  

Another reader illustrates the first reader's point about marriages that increase taxes:

What tax break? Fucking marriage penalty. We paid less taxes last year when we were single, and none of the few reasons to file married-filing-separately apply to us. We're both facing student loan debt and both need to work, so forget about us being the "single-breadwinner" household that seems to be the sole beneficiary of any marriage-based tax breaks. And combined we make more than the $60K-ish needed to fall under the no-marriage-penalty tax breaks.

Thanks for reminding me of the disappointment we had when we filled out our taxes a few weeks ago.