South Dakota Divorce & Taxes

South Dakota divorce & taxes intersect in numerous ways that significantly impact both spouses' financial futures. From property division to spousal support, from filing status changes to retirement account transfers, divorce creates complex tax implications that South Dakota couples must navigate carefully. Understanding how divorce affects your taxes helps you make informed decisions during negotiations, avoid unexpected tax liabilities, and structure settlements that minimize tax burdens for both parties.

How Divorce Changes Your Tax Filing Status

Your marital status on the last day of the tax year determines your filing status for that entire year, creating immediate tax implications as divorce proceedings unfold.

Determining Your Filing Status During Divorce

The IRS considers you married for filing purposes until you get a final decree of divorce or separate maintenance. This means if you're separated but not legally separated or divorced at the end of the year, you must file as married, either married filing jointly or married filing separately.

If you're legally separated or divorced at the end of the year, you must file as single for that tax year unless you're eligible to file as head of household or you remarry by the end of the year. The date your divorce decree becomes final controls your filing status, making timing strategically important for some couples.

Married Filing Jointly vs. Married Filing Separately

While divorce is pending, couples still legally married on December 31 must choose between two filing statuses:

• Married filing jointly  allows you to report combined income and deduct combined allowable expenses on one return. For many couples, filing results in lower taxes due to more favorable tax brackets, higher standard deductions, and eligibility for various tax credits unavailable to those filing separately. However, both spouses become jointly and severally liable for all taxes owed on a joint return.
• Married filing separately  means you report only your own income, deductions, and credits on your individual return. This protects you from liability for your spouse's tax obligations but typically results in higher overall taxes. Many tax benefits become unavailable or limited when filing separately, including the earned income credit, adoption credits, education credits, and the ability to deduct student loan interest.

Head of Household Status

If you're married or legally separated, one spouse may qualify to file as head of household if all these conditions apply: your spouse didn't live in your home for the last six months of the year, you paid more than half the cost of keeping up your home for the year, and your home was the main home of your dependent child for more than half the year.

Head of household status provides significant tax advantages over married filing separately, including more favorable tax brackets and a higher standard deduction. This filing status can substantially reduce taxes for the custodial parent during separation before divorce is final.

Property Division and Tax Implications

Property transfers between spouses during divorce carry specific tax consequences that affect both immediate and future tax liabilities.

General Rule

If the transfer is because of divorce, there's usually no recognized gain or loss on the transfer of property between spouses or former spouses. This means you can transfer assets as part of your property division without triggering immediate capital gains taxes or other tax consequences at the time of transfer.

However, the spouse receiving the property assumes the original cost basis. This creates future tax liability when the receiving spouse eventually sells the asset. For example, if you transfer stock purchased for $10,000 now worth $50,000 to your spouse as part of a property division, your spouse takes your $10,000 basis. When they sell the stock, they'll owe capital gains tax on the $40,000 appreciation, even though the appreciation occurred during your marriage.

Carryover Basis Considerations

The carryover basis rule requires careful planning in property division. Assets with substantial built-in gains (appreciation that has occurred but hasn't been taxed) carry hidden tax liabilities. When dividing property, couples should consider not just the current fair market value but also the embedded tax costs.

For instance, a house purchased for $100,000 now worth $300,000 and an investment account purchased for $250,000 now worth $300,000 appear equally valuable at $300,000 each. However, the house may qualify for capital gains exclusion when sold, while the investment account carries $50,000 in taxable gains. Fair property division accounts for these different tax consequences.

Tax Reporting for Property Transfers

You may have to report property transfers on a gift tax return, though the marital deduction typically prevents any actual gift tax liability. Maintaining proper documentation of property transfers pursuant to divorce protects both parties if the IRS later questions the transactions.

Alimony and Spousal Support Tax Treatment

Major changes in federal tax law dramatically altered the tax treatment of alimony, with different rules applying based on when your divorce was finalized.

The 2018 Tax Law Change

The 2017 Tax Cuts and Jobs Act eliminated the tax deduction for alimony payments for divorces finalized after December 31, 2018. This fundamental change significantly affects divorce financial calculations and negotiations.

For divorces finalized in 2019 or later

Alimony payments are NOT deductible by the paying spouse and are NOT included in the receiving spouse's income. The paying spouse pays alimony from after-tax dollars, and the receiving spouse receives it tax-free.

For divorces finalized in 2018 or before

Alimony payments ARE deductible by the paying spouse and ARE included in the receiving spouse's income, unless your divorce or separation agreement specifically changes the tax treatment of your payments.

Impact on Alimony Negotiations

The tax law change shifted the economics of spousal support dramatically. Under the old rules, the paying spouse received a tax deduction reducing the after-tax cost of payments, while the receiving spouse paid tax but often at lower rates. This created a "tax benefit" that could be shared between spouses through larger alimony payments.

Under the current law for new divorces, no such tax benefit exists. The paying spouse bears the full after-tax cost of payments, potentially reducing the amounts they're willing or able to pay. This change particularly affects high-income earners who previously received substantial tax savings from alimony deductions.

South Dakota Law on Spousal Support

South Dakota recognizes three types of alimony: general alimony (for housing and necessities), rehabilitative alimony (for education or training), and restitutional alimony (reimbursement for contributions to the spouse's education). Courts consider multiple factors when awarding spousal support, including standard of living during marriage, earning capacity of both parties, length of marriage, age and health, contributions to the marriage, and fault in causing dissolution.

While South Dakota law governs whether and how much alimony is awarded, federal tax law controls the tax treatment of those payments.

Tax Aspects of Child Support and Custody

Unlike spousal support, child support has consistent tax treatment regardless of when your divorce was finalized.

Child Support Is Not Taxable or Deductible

Child support payments are NOT deductible by the paying spouse and are NOT taxable to the receiving spouse. This tax treatment applies to all divorces regardless of date. The parent paying child support makes payments from after-tax income, and the parent receiving child support faces no tax consequences on those payments.

Claiming Children as Dependents

Generally, the parent with custody of a child can claim that child on their tax return to file as head of household or claim various tax credits, including the child tax credit, earned income credit, and dependent care credit.

If parents split custody 50-50 and aren't filing a joint return, they must decide which parent gets to claim the child. If parents can't agree, IRS tie-breaker rules apply based on which parent the child lived with longer during the year, which parent has a higher adjusted gross income, and other factors.

The noncustodial parent can claim a child only if the custodial parent signs IRS Form 8332 releasing the claim. Some divorce decrees require the custodial parent to release the exemption to the noncustodial parent, particularly when the noncustodial parent pays child support and can benefit more from the tax credits.

Tax Benefits Worth Negotiating

Various tax benefits attach to claiming children as dependents:

• Child tax credit  provides up to $2,000 per qualifying child under age 17, with up to $1,600 refundable. This credit phases out at higher income levels.
• Earned income credit  can be worth several thousand dollars for qualifying lower-income working parents. This credit is only available to the parent with whom the child lived for more than half the year.
• Dependent care credit  helps offset childcare costs, enabling parents to work. Only the custodial parent can claim this credit, regardless of who paid childcare expenses.
• Head of household status  provides more favorable tax rates anda  higher standard deduction than single or married filing separately status.

Couples should strategically allocate these benefits in their divorce settlement to maximize combined tax savings when possible.

Retirement Accounts and Tax Considerations

Dividing retirement accounts in divorce creates significant tax planning opportunities and traps.

Qualified Domestic Relations Orders (QDROs)

If you participate in a retirement plan and get divorced, your ex-spouse may become entitled to a portion of your account balance under a qualified domestic relations order (QDRO). This special court order instructs retirement plan administrators how to divide accounts according to your divorce decree.

Tax treatment of QDRO transfers

Properly structured QDRO transfers from one spouse's retirement account to the other spouse's retirement account occur tax-free. Neither spouse recognizes taxable income when the transfer happens, and the receiving spouse only pays taxes when they eventually withdraw money from their account.

Tax treatment of QDRO distributions

If the receiving spouse takes a cash distribution rather than rolling the QDRO funds into their own retirement account, they must include the distribution in taxable income. However, QDRO distributions are NOT subject to the 10% early withdrawal penalty even if the receiving spouse is under age 59½.

IRA Division Rules

IRAs (Individual Retirement Accounts) follow different rules than employer-sponsored retirement plans. You can transfer assets from your IRA into your spouse's IRA tax-free under a divorce or separate maintenance decree through a qualified trustee-to-trustee transfer or transfer incident to divorce.

Important distinction

Unlike employer plans requiring QDROs, IRA transfers incident to divorce don't require a QDRO but must clearly be made pursuant to the divorce decree.

Tax trap to avoid  

If you withdraw amounts from your traditional IRA to pay your ex-spouse as part of your divorce settlement (rather than doing a proper trustee-to-trustee transfer), those amounts are taxable to you. If you're under age 59½, you must also pay the 10% early distribution tax unless you qualify for an exception.

Comparing Pre-Tax and After-Tax Assets

When dividing assets in a South Dakota property division, understanding the difference between pre-tax and after-tax assets prevents unfair divisions. A $100,000 retirement account and $100,000 in a taxable investment account appear equal in value but carry different tax consequences.

The retirement account holds pre-tax dollars that will be fully taxable when withdrawn, potentially reducing its after-tax value by 20-30% or more, depending on the recipient's future tax bracket. The investment account has already been taxed, so only the capital gains on appreciation will be taxed at sale.

Fair property division accounts for these different tax characteristics, often adjusting values to reflect after-tax worth.

Joint Tax Liability and Innocent Spouse Relief

When couples filed joint tax returns during marriage, both spouses remain jointly and severally liable for taxes owed, even after divorce.

Joint and Several Liability Persists After Divorce

If you filed married filing jointly returns during your marriage and those returns owe additional taxes (either because of audit adjustments or because you didn't pay all taxes owed when filing), both spouses remain fully liable for the tax debt even after divorce.

The IRS is not bound by divorce decrees that allocate tax liability to one spouse. If your divorce decree states your ex-spouse must pay delinquent taxes from joint returns, the IRS can still collect from you without regard to the divorce decree. You must then seek reimbursement from your ex-spouse through state court enforcement of the divorce decree, a potentially costly and uncertain process.

Addressing Tax Liability in Divorce Decrees

During divorce proceedings in South Dakota, couples should obtain up-to-date IRS tax account transcripts showing balances owing on any delinquent taxes. Address repayment of taxes during the divorce process rather than discovering a surprise tax liability after the divorce is final.

When allocating tax liability in divorce, consider requiring the responsible spouse to hold the other spouse harmless from joint tax obligations, establishing security (such as a lien on property) to protect the non-responsible spouse, obtaining tax clearance transcripts before finalizing divorce, and addressing in the decree how to handle future audits of joint returns.

Innocent Spouse Relief

If one spouse believes the other spouse should be exclusively responsible for joint tax liability, they may seek innocent spouse relief from the IRS. Three types of relief exist: innocent spouse relief (for understatement of tax due to erroneous items), separation of liability relief (allocates liability between spouses), and equitable relief (for tax liability paid or unpaid that doesn't qualify for other relief types).

If seeking innocent spouse relief, helpful language in divorce decrees includes requiring one spouse to pay the tax, documenting grounds supportive of innocent spouse relief such as allegations of domestic abuse or fraud, securing consent of the paying spouse not to oppose an innocent spouse petition, and specifically referencing the possibility of innocent spouse relief claims.

While divorce decree language doesn't bind the IRS, these factors influence IRS decisions on innocent spouse relief requests.

State Tax Considerations for South Dakota

South Dakota's unique tax structure affects divorce financial planning.

No State Income Tax

South Dakota has no state income tax, simplifying tax planning for divorcing couples compared to states with income taxes. You don't need to consider how alimony affects state tax deductions and income, how property division triggers state capital gains taxes, whether to file joint or separate state returns, or how your ex-spouse's state tax bracket affects support negotiations.

This absence of state income tax makes South Dakota divorces somewhat simpler from a tax perspective than divorces in income tax states.

Property Taxes

While South Dakota has no income tax, property taxes fund local government services. When dividing real estate in divorce, consider how property tax obligations will be allocated. The spouse retaining the marital home assumes full property tax liability, which affects their ability to afford the property long-term.

Sales Tax

South Dakota has a state sales tax that affects the cost of maintaining separate households after divorce. This consumption tax impacts both spouses' living expenses post-divorce but generally plays a minor role in divorce financial planning.

Tax Planning Strategies for South Dakota Divorces

Strategic tax planning during divorce negotiations can save both spouses substantial money.

Timing Your Divorce Finalization

The timing of when your divorce becomes final affects your tax filing status for the entire year. Couples might strategically time divorce finalization to fall in December or January, depending on whether filing jointly or separately provides better tax results for that year.

Allocating Tax Refunds and Liabilities

Address in your divorce decree how to handle tax refunds from joint returns filed during marriage, tax liabilities from joint returns discovered after divorce, responsibility for preparing final joint returns, and who pays preparation costs for joint returns.

Maximizing Combined Tax Benefits

Even during divorce, couples can sometimes structure settlements to minimize the combined tax burden, leaving more money available for both parties. This might involve one spouse keeping highly appreciated assets while the other takes cash or low-basis assets, allocating dependency exemptions to the parent who receives greater benefit, timing property sales to optimize capital gains treatment, or structuring property division to account for different tax characteristics.

Pre-2019 vs. Post-2018 Divorces

The 2018 tax law change created dramatically different tax implications for alimony depending on when the divorce was finalized:

Working with Tax Professionals

Given the complexity of South Dakota divorce & taxes, most divorcing couples benefit from professional tax guidance.

When to Consult a Tax Professional

Consider consulting with a CPA, tax attorney, or enrolled agent when dividing substantial assets with different tax characteristics, structuring alimony in divorces with significant income disparities, dealing with delinquent tax liabilities from joint returns, dividing business interests requiring tax valuations, or planning for long-term tax consequences of settlement options.

Tax professionals help you identify tax-efficient settlement structures, quantify after-tax values of different property division scenarios, prepare projections showing post-divorce tax situations, assist with innocent spouse relief claims if needed, and ensure compliance with tax reporting requirements.

Coordinating with Divorce Attorneys

Your family law attorney handles the legal aspects of divorce, while tax professionals advise on tax implications. These professionals should coordinate to structure settlements that achieve your legal goals while minimizing tax burdens.

Inform your divorce attorney of any tax concerns early in the process so tax considerations can be incorporated into settlement negotiations rather than discovered too late to address.

Tax-Smart Divorce Planning

South Dakota  divorce & taxes intersect in complex ways, affecting property division, spousal support, filing status, retirement accounts, and long-term financial security. While South Dakota's absence of state income tax simplifies some aspects, federal tax law creates numerous considerations requiring careful attention.