Supreme Court Ruling on Defense of Marriage Act Cases

On Tuesday, June 26, 2013, the Supreme Court ruled in two cases regarding same-sex marriages.

These two rulings will impact how married couples of the same gender will file their income taxes and estate taxes. Just what the impacts will be: this is something we'll be figuring out over the next few months.

Summary of the Cases:

"In United States v. Windsor, the Court held that Section 3 of the Defense of Marriage Act, which excluded same-sex unions from the federal definition of marriage, is an unconstitutional deprivation of the equal liberty of persons protected by the Fifth Amendment." (SCOTUSblog, "Evening Round-up of News on Today's Opinions")

"In Hollingsworth v. Perry, the Court decided that the proponents of California's ban on same-sex marriage did not have standing to appeal the district court's order overturning the ban." Thereby, California Proposition 8, which banned same-sex marriage, is overturned. California may resume issuing marriage licenses once the judicial injunction against issuing marriage licenses to same-sex couples is lifted. (Also from SCOTUSblog, "Evening Round-up of News on Today's Opinions")

Tax Implications of these Supreme Court decisions:

Legally married same-sex couples may* now be able to file federal income tax returns as married rather than as unmarried. They may be able to amend previously filed tax returns to change their filing status and to recalculate their tax. Generally speaking, amended federal returns can be filed for any years still open under the three-year statute of limitations on refunds. However, refunds could be claimed on older years if the couple previously filed a protective claim to keep the statute of limitations open.

Same-sex married couples may* now be eligible for the marital deduction for federal estate taxes. They may be able to amend previously filed estate tax returns to have the marital deduction apply.

Same-sex married couples may* now be eligible for federal tax benefits previously available only to opposite-sex married couples, such as tax-free health insurance benefits.

Same-sex couples may* now be eligible for other federal benefits, such as spousal Social Security benefits.

* When I say "may" in the previous sentences, here's what's going on. There seems to be a question of whether gay and lesbian spouses can file as married if they reside in a state that does not recognize same-sex marriages. It's not particularly clear at this point what the answer is. What is clear to me: gay and lesbian spouses can file as married if they live in a state that recognizes their marriage. This is because marital status for federal tax purposes is determined by the states.

What We Don't Yet Know

I expect that the Internal Revenue Service will issue guidance on a range of federal tax issues. In particular, I expect the IRS to issue the following types of guidance:

whether there will be standardized procedures for filing amended returns and processing previously filed protective claims;whether there will be standardized procedures for seeking refunds of income tax and payroll taxes on employee benefits for same-sex couples; andwhether all same-sex married couples will be permitted to file as married on their federal tax return, or whether this applies only to couples residing in those states that recognize same-sex marriage.

Further, the IRS will need to reprogram their computer systems to allow for gay and lesbian couples to file as married. Currently, the IRS's computer systems reject tax returns where both spouses have the same gender.

Here's some related articles on the subject of taxes for gay and lesbian married couples.

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Tax Issues of the Supreme Court Ruling that DOMA is Unconstitutional

Today I had the good fortune of speaking with Nanette Lee Miller, CPA, who is the National Leader of Marcum LLP's LGBT & Non-Traditional Family Practice Group. She shared with me her thoughts on the tax implications of the Supreme Court's decision in United States v. Windsor that section 3 of the Defense of Marriage Act is unconstitutional.

The Supreme Court ruling impacts "same-sex married couples if they live in California or in a state with legally recognized marriages for same-sex couples," Miller said. Such couples can now file joint or separate returns married and amend previously filed returns to change their filing status and recalculate their federal income tax.

"What if a same-sex married couple now resides in state that doesn't allow for gay marriage? In the past, the IRS has a policy guideline where state where the couple is a resident trumps the state where the marriage license was granted. This is an area that will need to be re-addressed by the IRS," Miller said.

Tax Planning Issues for Same-Sex Spouses

For gay and lesbian couples "tax planning around marriage is nothing new, it's just like planning for traditional married couples," Miller said. Issues to consider in tax planning for married couples often looks at tax-free employee benefits (such as health insurance) for both spouses, and considering estate and gift tax issues around transferring assets between spouses. Miller recommends, "Same-sex married couples may want to revisit their estate plan to take into consideration the unlimited marital deduction, even if the estate plan was looked at recently."

"Gay marriage is not a moral issue, it's an economic issue," Miller points out. Some of the tax-related financial issues that gay married couples may want to consider include:

Employer-provided health insurance coverage. Under the Defense of Marriage Act, health insurance benefits provided to a same-sex spouse of an employee was added to that spouse's W-2 income for federal income tax. Those benefits are pre-tax now that same-sex marriages are recognized at the federal level.

Inherited Individual Retirement Accounts. Under the Defense of Marriage Act, when a person who is not a spouse inherits an IRA, that the funds in that IRA must be distributed over a set period of time, usually five years. However if a spouse inherits an IRA from his or her same-sex spouse can now treat the inherited IRA as his or her own and rollover the funds into his or her own IRA. This changes the timing of when and over what duration funds must be distributed from the IRA.

Estate tax. Same-sex married couples now enjoy an unlimited marital deduction against the federal estate tax. When one spouse inherits assets from a deceased spouse, those assets are not included when calculating the taxable portion of the deceased spouse's estate.

Gift tax. Same-sex married spouses are permitted to give an unlimited amount of assets between each other without gift tax consequences. Previously, same-sex spouses had to consider the annual gift tax limitations for transferring assets between themselves.

Social Security Benefits. Same-sex spouses may now be eligible for higher Social Security benefits. It may take "Social Security two or three months to figure out" how to address this issue, Miller said.

Procedural Issues

Miller recommends that we "wait and see" on a variety of procedural issues. She expects the IRS to come up with procedures to address issues around filing returns and amending returns to take into account all the tax changes impacting same-sex married couples.

There's already one procedural issue that we could think of. Same-sex spouses in community property states had to split the net income between both spouses if one spouse had self-employment income on a Schedule C. Both spouses reported half the total Schedule C income and each spouse had to pay the self-employment tax on that income. Now that same-sex spouses are recognized as married for federal tax purposes, "the self-employment tax on Schedule C issue goes away for same-sex married couples in community property states." Same-sex spouses would now be eligible to file jointly or separately, and with the self-employment tax applied only to the spouse who actually earned the Schedule C income. This could change the annual Social Security earnings of both spouses, which in turn could impact future Social Security benefits. They may also be a change in the self-employment tax liability if the Schedule C income was over the annual wage base for calculating the Social Security tax.

Miller imagines that the IRS will allow same-sex spouses to voluntarily revise previous tax returns, and that will be "mandatory going forward" to file as married. She expects that "within 6 months this will be sorted out."

Issues for Registered Domestic Partners and Civil Unions

The Supreme Court ruling does not impact Registered Domestic Partners and Civil Unions. For these taxpayers it's "business as usual," Miller said. Registered Domestic Partners and Civil Unions are still considered unmarried for federal tax purposes and may need to allocate income and deductions if their state has community property laws.

Miller alerted me that CCH has released its Tax Briefing, "Supreme Court Strikes Down DOMA" [pdf]. Her firm, Marcum LLP, has published a map showing which states recognize same-sex marriages. That map is located at www.marcumllp.com/LGBT-Unions.

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