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same-sex unions

Gideon Alper, who publishes the Gay Couples Law Blog, which discusses new developments in same-sex family law and estate planning, writes:

The IRS should recognize gay marriages not just as a matter of equality, but also to encourage socially beneficial behavior in gay relationships.

Fred Silberberg, a Los Angeles attorney that has practiced family law for over 20 years, wrote in the Huffington Post about the unnoticed effects of the Defense of Marriage Act.

Specifically, he talked about a problem a male client was having with alimony payments to the client from the client’s same sex ex-partner. Because the IRS doesn’t recognize gay relationships, the alimony is not deductible. But if the client had been married to a woman, his wife would be able to deduct alimony payments she makes to him.

The government allows people to deduct alimony payments to encourage ex-spouses to make support payments. The deduction gives one spouse a financial incentive to support the other after a breakup. This behavior is socially beneficial—it lets someone who relied on her spouse’s income to maintain access to it. Fred writes:

“It is the tax-deductibility aspect of spousal support that allows us, as lawyers, to try to come up with creative ways to address the issue if at all possible. We try to maximize the tax benefit and use it in a way that reduces overall income tax liability to maximize the dollars that exist to benefit the now-separated family.”

The impact to Fred’s client and his ex-partner was particularly large because their income levels were high enough that they were paying federal income tax at the maximum rate. Because his ex-partner has no tax incentive to make alimony payments, the client may not receive the support he needs to continue his lifestyle after the dissolution.

But deducting alimony payments is just one of the many income tax deductions available to married (and divorced) couples. These deductions encourage couples to do things that the government believes are good for each other and society in general.

Because the IRS doesn’t recognize gay relationships, the government can’t give the same encouragement to same sex couples. Repealing DOMA, then, would not just put same sex and opposite sex couples on an equal footing–it would also allow the government to use tax laws to encourage gay couples to make socially beneficial choices.

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Welcome to my seventh in a series on state taxes! For information about what I’m trying to do, read my introductory bit. Next on the agenda, Connecticut (home of the Connecticut Employment Lawyer Blog).

CONNECTICUT

Population: 3,501,252 (29th)

Capital: Hartford

Largest City: Bridgeport

Gross Domestic Product: $204 billion

GDP per capita: $54,117 (1st!)

2008 election winner: Barack Obama

web site: http://www.ct.gov/

Income Tax

Connecticut does collect personal income tax. Taxes are divided into two tax brackets of 3% and 5%. All wages of a Connecticut resident are subject to the state’s income tax, even when the resident works outside of the state. However, as with many states which have bedroom communities to major metro areas, tax is only collected when it exceeds tax in the other state. Since everyone many high-earning wage earners who live in Connecticut work in New York, those folks pay no income tax on those wages to Connecticut. The income must still be reported on the return, however, in order to receive the credit for taxes paid to New York another state.

Connecticut taxpayers must generally file an income tax return if they lived or worked in Connecticut for part or all of the year. Income thresholds apply, starting at $12,000.

Your filing status for Connecticut purposes is… a great deal different for some taxpayers than their filing status for federal purposes. For most taxpayers, you file the same as you would for federal purposes (single, married filing jointly for federal and Connecticut, married filing separate for federal and Connecticut, or head of household, qualifying widow(er) with dependent). But there’s an additional category for some taxpayers: married filing jointly in Connecticut only.

The latter status (married filing jointly in Connecticut only) is a nod to individuals who are parties to a civil union recognized under Connecticut law. Same sex marriages and civil unions are recognized in Connecticut but not for federal purposes.

Pension and annuity benefits received by Connecticut residents are subject to Connecticut income tax to the extent that these benefits are includable for federal income tax purposes. This applies even if the pension is paid by an out of state employer.

Since military is huge in Connecticut (I should know, as my brother is stationed there), there are special rules for military personnel. Here’s the most important rule: if you weren’t domiciled in Connecticut before you entered the military and you were later assigned to active duty in Connecticut, you do not become a Connecticut resident just because you live there now. If your home of record is in another state, you are a nonresident and your military pay is not subject to Connecticut income tax.

Connecticut does participate in the Treasury Set Off program. A Connecticut state tax refund will be taken to satisfy any outstanding liabilities owed to Connecticut or to the Internal Revenue Service; a federal refund will be taken for same.

Like Colorado, Connecticut makes it easy to designate your refund to charity. For 2008, the check off options were:

  • AIDS Research

  • Organ Transplant
  • Endangered Species/Wildlife
  • Breast Cancer Research
  • Safety Net Services
  • Military Family Relief Fund

Sales Tax.

Connecticut levies a 6% state sales tax on the retail sale, lease, or rental of most goods. Food for consumption, medical goods and services and clothing under $50 – the usual suspects – are exempt. Some interesting exemptions include college textbooks, compact fluorescent lights and rare coins.

There are two additional exceptions:

  1. The sales tax rate for the sale of computer and data processing services is 1%.

  2. The sales tax rate is 4½% on the sale of a motor vehicle to a nonresident member, or a member and his or her spouse jointly, of the armed forces of the United States stationed on full-time active duty in Connecticut.

There are no separately collected local or municipal sales taxes.

Tobacco Tax

Connecticut’s cigarette tax is $2.00 per pack pack, which ties it for the 6th highest rate in the country. The national average now stands at $1.23.

Gas Tax

The gas tax rate in Connecticut is $.364 per gallon, making it the 3rd most expensive state in which to buy gas – just behind New York and California.

Property Taxes

Connecticut does impose taxes on real property based on the assessed value of the property. Property tax calculations are determined using 70% of the assessed value.

As you would expect so close to New York, Connecticut property tax collections are quite high. In 2006, Connecticut ranked second in property collections per capita and per household; only New Jersey is higher (also close to New York… Hmm….).

Inheritance and Estate Tax

As you might expect in a state with wealthy residents, Connecticut imposes an estate tax. The tax is on the transfer of estates valued at $2 million or more beginning at 5% of the first $100,000 and increasing to 16% for estates over $10 million.

Overall Tax Burden

The overall tax burden in Connecticut, taking into account taxes paid by individuals, results in a ranking as 3rd most-tax burdened state in the country, according to Tax Foundation. That sounds high but it’s an improvement over 1998 when it was ranked 1st.

taxgirl says

Connecticut is a bit eclectic. And I don’t just say that because they are represented by Democrat Republican? Independent Senator Joe Lieberman.

I say it more because of the incredible disparity in income in the state (much like another high tax state, New Jersey). The city of New Canaan has one of the highest per capita incomes in America with a per capita income of $85,459 while the capital, Hartford is one of the ten cities with the lowest per capita incomes in America ($13,428).

The individual income tax rate is actual relatively low and, in a state with such varied incomes, you would expect a two-tiered system.

The lion’s share of Connecticut’s tax burden comes in the form of extremely high property taxes per capita. I suspect the “per capita” bit is attributable to the high priced housing near the New York state line. Property taxes account for, on average, nearly 40% of the Connecticut taxpayer’s tax burden.

Gas taxes are also pricey. Not surprising since taxes in New York are so high. It may be a case of keeping up with the New York Joneses (not to be confused with Jones New York).

With respect to American Recovery and Reinvestment Act (Recovery Act) dollars, Connecticut is near the top of the pack in terms of funding allocations. The state is slated to receive more than $2.6 million from ARRA with the biggest chunk going to the Department of Education.

While the tax burden is heavy, it doesn’t seem to be driving folks away from the state. I suspect a healthy military and student population has contributed to the overall economy of Connecticut – as well as high dollar jobs in Manhattan.

(Note: tax rates were current as of 08-12-2009 and were taken from the CT Department of Revenue Services)

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I’ve received a number of “ask the taxgirl” questions related to the first time homebuyer’s credit. I’m hoping to wade through a number of those questions this week in consideration of the IRS’ new emphasis on preventing related fraud.

Enjoy!

Taxpayer asks:

Dear Tax Girl,

I’ve reviewed the information published by the IRS related to the new $8000 first time homebuyer tax credit in the Economic Recovery package. I am a current homeowner, and live in the home with my domestic partner, who is legally just a boarder, has never owned a home of his own, and has no ownership interest in our current residence.

Form 5405 states that an individual cannot qualify for this tax credit if they acquire the home from a related person. However, since federal law doesn’t recognize our relationship, it seems like we are legally unrelated persons.

All this said, do you believe that I could legally sell my home to my partner for its fair market value and he could then qualify for this credit?

It may not be in the spirit of this tax provision, but there are a number of costs that my partner and I have already absorbed (durable POA, trust, etc.) because we cannot get married. Wouldn’t taking advantage of this “loophole” be equitable under the circumstances?

Thanks!

Taxgirl says:

Gosh, this is a really interesting person. It kind of raises the question as to whether IRS can have their cake (make you unrelated for purposes of filing the form 1040) and eat it, too (hold you out as related for purposes of filing the form 5405). So I had to think about it for a bit.

The first thing I did was to check out the instructions again for federal form 5405 (available here as a pdf). The instructions define related persons to include:

a. Your spouse, ancestors (parents, grandparents, etc.), or lineal descendants (children, grandchildren, etc.).

b. A corporation in which you directly or indirectly own more than 50% in value of the outstanding stock of the corporation.

c. A partnership in which you directly or indirectly own more than 50% of the capital interest or profits interest.

So, under those facts, you’re good. But then the IRS directs you to Pub 544 (downloadable here as a pdf). Pub 544 gives you a more exhaustive list of who qualifies as “related” – and again, I think you’d pass muster.

Initially, then, my answer is that I think that the transaction you described would work for purposes of the credit. But I think you have to be really, really careful and think this through for a number of reasons. Among them:

  1. The IRS specifically excludes property that you acquired “by gift or inheritance.” In order to insure that this transfer isn’t considered a gift (which would disqualify for the credit), you’re going to need to document this transaction extremely well. I would suggest an appraisal and a formal closing. Otherwise, you run the risk of it looking like a gift.

  2. Don’t forget about transfer taxes! Sometimes we jump through hoops to get to a favorable tax spot and we forget about other situations that we might be creating. Since this is to be a bona fide sale (see #1 again), you will be subject to transfer taxes on the sale – in most states, domestic partners and same sex couples are not exempt from transfer tax. If that’s the case, you may be subject to a transfer tax amount that would otherwise wipe out any tax credit benefit.
  3. Mortgage and fees. You didn’t mention whether you had a mortgage on the property or whether your partner would require a mortgage. Remember that the mortgage company would need to be involved at the sale – and that your partner would have to obtain a mortgage if he cannot pay you in full. You cannot lend him the money or otherwise exempt him from paying. If so, you would be making a gift (see #1 again).

So, my answer is that, at first blush, so long as your partner otherwise qualifies, he would be entitled to take the credit if you sold him your property. But consider all of the pieces of the transaction before rushing to claim the credit. You want to make sure that your numbers add up.

Like any good lawyer, I need to add a disclaimer: Unfortunately, it is impossible to give comprehensive tax advice over the internet, no matter how well researched or written. Before relying on any information given on this site, contact a tax professional to discuss your particular situation.

Have a question? Ask the taxgirl!Now on Facebook!

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Last year, while Californians were in the midst of a heated debate on the merits of Prop 8, Charles Merrill took activism into his own hands: he filed papers in Tax Court challenging the Defense of Marriage Act (DOMA). On July 13, the Tax Court ruled that Merrill was not entitled to relief. (Merrill v. Commissioner, T.C. Memo 2009-166).

Merrill is legally married in the state of California to Kevin Boyle, one of nearly 18,000 same-sex unions in state which remained valid after Prop 8 was upheld by courts earlier this year. His court challenge, however, had nothing to do with his marriage.

The question, according to the court was “whether petitioner, who was unmarried but in a committed relationship with another man during the years at issue, is entitled to married filing joint status.” The court found that he was not.

So it feels like the law is settled. Or maybe not.

This case wasn’t really about DOMA even though it was painted as a DOMA challenge. Merrill did not get married until 2008. His case, however, focused on the tax years 2004 and 2005, when he was single. Merrill believes that he should have been able to file as married while a resident of North Carolina since North Carolina does not recognize same sex marriages; the IRS said that he could not because he was not married. Additionally, Merrill believes that he should have been able to file as married when he moved to California; again, the IRS said that he could not because he was not yet married. The court agreed on both counts. In other words, Merrill wasn’t married, so the court found that he couldn’t file as married. Not groundbreaking stuff.

It wasn’t surprising, then, that the court refused to address the bigger issue of the constitutionality of DOMA, claiming that it was not relevant to Merrill’s case. Had they addressed that piece, that would have been interesting. The court would have been required to address DOMA had Merrill filed a federal joint return for 2008 (for which he was legally married). The IRS does not follow state law for recognizing same-sex marriages despite the fact that state law determines marital status for federal filing purposes, including the recognition of common law marriages and legal separations. However, DOMA, which defined marriage as “a legal union between one man and one woman as husband and wife” requires that the IRS not recognize same sex marriages.

In other words, you want to talk DOMA? File a bona fide DOMA challenge.

The rest of Merrill’s case is likewise a bit puzzling. Merrill had actually not filed with the IRS for either of the years in question (2004 and 2005). He has refused to file or pay federal taxes for the past several years as a protest. While I note that constitutional law isn’t my forte, I might have approached this case a little differently. It would make sense to me that, rather than file a case protesting filing status that Merrill never actually claimed (meaning that he never filed as married), a better route from a procedural standpoint would have been to file joint tax returns with his partner and then make the claim if opposed by the Service (which it certainly would have been). Would he have had a different result this way? Probably not. But I think it would have been a better argument and made a bigger statement.

This case may get talked up a bit at cocktail parties (on both sides) but for tax purposes, in the end, it really didn’t offer anything new.

(Hat Tip: Tax Prof Blog)

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Merrill Challenges Defense of Marriage Act on Tax Grounds

28 October 2008

Charles Merrill, cousin of the founder of Merrill Lynch, has filed a challenge in the US Tax Court against the Defense of Marriage Act (DOMA). Merrill is arguing that the Tax Code is discriminatory under the First Amendment Establishment Clause of the US Constitution since same sex couples are denied the same benefits as [...]

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Not Such a Gay Ol’ Time in California

9 October 2008

When all else fails, hit ‘em in the pocketbook…
This week, supporters of Proposition 8, which would ban gay marriage in California, released an ad, pictured above. The ad claims that under current law, gay marriage would be promoted in public schools and warned that churches which opposed same-sex unions would lose their tax exempt [...]

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