Couples living in any of the nine community property states must classify their income as either community income or separate income when preparing separate federal tax returns. Generally, you must follow your state’s laws to determine whether a particular source of income is separate or community property, as the Internal Revenue Service (IRS) typically relies on each state’s laws for community property.
States Recognizing Community Property Law
Community property law dictates that anything acquired during the marriage is owned equally by both spouses, except for assets or income received as inheritance or that is gifted to only one spouse.
The states that recognized community property law as of 2022 are:
- Arizona
- California
- Idaho
- Louisiana
- New Mexico
- Nevada
- Texas
- Washington
- Wisconsin
Federal law does not differentiate between same-sex couples and opposite-sex couples; however, it draws a line between registered domestic partnerships or civil unions and marriage. Federal law does not recognize registered domestic partnerships or civil unions as marriage for tax purposes.
Determining Community Income
Under the law, community income is considered equally shared between married couples, regardless of who earned it. Community income also includes income generated by community property.
Determining Separate Income
Separate income is deemed by law to belong to one spouse. This may be because it was produced or earned by property that was separately owned before the marriage, property purchased with separate funds, or property that the spouses agreed to convert from community property to separate property through a legally valid marital agreement. Each spouse must report half of the total community income, plus their separate income if any, when filing a separate federal tax return.
Reporting Earned Income
Compensation in the form of wages, salaries, commissions, and freelance work is always treated as income belonging to the marital community in community property states. Each spouse must report half of the total compensation income and half of the withholding from that income when filing a separate federal tax return.
Reporting Investment Income
Interest, dividends, rents, capital gains, and other income from investments can be classified as either community income or separate income. It depends on the nature of the property generating the income.
Income generated by separate property is considered separate income. It will be community income if the property is community property. It will be allocated as community property in the same percentage as the underlying community property when there is a mix of separate and community property.
Reporting Retirement and Pension Income
Income from Individual Retirement Accounts (IRAs) and other IRA plans, such as SEP-IRAs and SIMPLE-IRAs, is always considered separate income and is allocated to the spouse who owns the account. Similarly, Social Security benefits are considered separate income and allocated to the spouse receiving the benefits.
Income from 401(k) plans, 403(b) plans, and other types of pensions can be a mix of separate and community income. Distributions from a non-IRA retirement plan are classified based on the sequential participation periods in retirement while the spouses are married and residing in a community property state. The ratio depends on the time spent participating in the retirement or pension plan.
Frequently Asked Questions (FAQs)
Do any other states recognize community property laws?
Alaska, Tennessee, and South Dakota allow couples to voluntarily choose to follow community property law as of 2022. The rules and provisions mentioned here apply only to the nine states where community property provisions are mandatory.
Is alimony income taxable in community property states?
Alimony income is taxable to the extent that it exceeds 50% of the presumed community income if one spouse pays alimony or spousal support to the other. This applies only until the divorce is finalized.
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Source: https://www.thebalancemoney.com/community-property-income-3193072
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