Are you married? Chances are you’re planning to file a joint tax return.
However, that may not be the best choice.
In 2016, just 5.3% of married couples chose to file separate returns, according to data from the Internal Revenue Service. That’s not surprising, given how complicated filing separate tax returns can be, said Robert Westley, an accountant and a member of the American Institute of CPAs’ Personal Financial Specialist Credential Committee.
“The married filing separately tax status comes with a lot of quirks,” he said.
For starters, the “married filing separate” tax status may mean that a couple from must forgo (in part or entirely) a number of popular tax breaks and deductions, including the earned-income credit, the adoption credit and the student-loan interest deduction.
Additionally, if one spouse chooses to itemize, both will need to do so even if they file separate returns. As a result, the other spouse could lose out on what they would have received had they taken the standard deduction.
Nevertheless, certain financial circumstances can make filing separate returns far more advantageous. Here are some of the scenarios in which this approach makes sense:
If one spouse is paying off student-loan debt with certain repayment programs
Married borrowers repaying their federal student loans on an income-driven repayment plan may want to file their taxes separately. These plans allow borrowers to pay back their loans as a percentage of their income. All but one of the plans — REPAYE — only takes the borrower’s income into account when calculating the payment amount even if they’re married, as long as they file their taxes separately from their spouse.
Married borrowers who file separately will lose access to certain other tax benefits related to higher education and student loans, notes Mark Kantrowitz, the publisher of Savingforcollege.com. For one, they won’t be able to take advantage of the student-loan interest deduction, which allows borrowers to deduct up to $2,500 of total interest they paid on their student loans in a given year. They also can’t claim the American Opportunity Tax Credit or the Lifetime Learning Credit, two credits available to households with a student in college, though filers can only choose one.
If one of the two has a pass-through business
Starting in 2018, people who make a living through pass-through businesses will be able to deduct up to 20% of their business income. This applies, generally, to people who are small-business owners, sole proprietors or earn money from rental properties.
However, owners of “specified service businesses” — including everyone from doctors and dentists to financial advisers and real estate brokers — cannot claim the deduction if their income exceeds a certain amount. For married couples who file jointly the limit is $315,000, but for all other taxpayers the limit is $157,500.
“If one taxpayer is a business owner and has below $150,000 in business income, but the other spouse has $200,000 in wages, that would push them above the limit,” said Westley. Consequently, the business owner could access this substantial deduction — generating significant tax savings — by filing a separate return from her spouse.
If one spouse incurred significant medical expenses
Medical expenses are deductible if they exceed 7.5% of adjusted gross income for 2018. (In 2019, that threshold will go up to 10%.) Increasing one’s income, therefore, can easily reduce the amount in medical expenses that they can deduct.
Take a hypothetical scenario in which two married individuals each makes $50,000, and one person had an oral surgery that cost $10,000. If they filed jointly, they could only deduct medical expenses that exceed $7,500. That threshold is cut in half, if they file separately.
If the couple is considering a divorce
One thing couples often overlook when negotiating a divorce settlement is their tax return, said Harvey Bezozi, an accountant and financial planner based in Boca Raton, Fla., who founded YourFinancialWizard.com.
“When divorce is on the horizon, it is important for married couples to begin dividing all parts of their combined finances as soon as possible,” Bezozi said. “Filing separately rather than jointly ensures avoiding a tax dispute during the final marital settlement process.”
More than that, going through the process of filing separate tax returns will provide the divorcing couple with a clearer picture of their assets and liabilities, Bezozi added. That, in turn, could help them reach a more equitable settlement.
If one person has complicated finances
When a couple files jointly, each spouse is essentially taking on their partner’s tax liabilities. In a situation where one spouse has far more complicated finances — let’s say they own multiple businesses, have high medical expenses and earn income from a rental property — there’s a higher risk that they could be audited if the IRS suspects they didn’t include income or took too much in deductions.
If this hypothetical couple filed jointly, the spouse with simpler finances would be on the hook for their partner’s tax liabilities. But if they file separately, she could simply get her return and not need to worry as much about the accuracy of her husband’s return.
