Apportioning tax deductions for minor children in a divorce

Under IRS regulations, the parent “with whom the child resided for the longest period of time during the taxable year” has the right to claim the tax exemption for a minor child. IRC Section 152 (c)(4)(B)(I). However, the IRS also allows the custodial parent to execute a signed waiver disclaiming the child as an exemption in any given year. This allows the parties to a divorce to allocate the exemption in any given year. Frequently, parents agree to divide this evenly, with one parent receiving the exemption in odd years and the other in even years. Where there are multiple children, the parents often agree to divide the exemptions so that one parent receives them for certain children, and the other parent receiving them for the remaining children. This is true even where the parent receiving the exemption, or some of the exemptions, does not have primary physical custody.

If the matter proceeds to trial, the issue often arises where the parent who does not have primary physical custody makes substantially more income than the parent with primary physical custody, and wants to take the deduction because it benefits him or her far more than it will benefit the parent who has custody. Indeed, because of the progressivity of the federal income tax, the higher the income the more valuable exemptions become. And therefore, it is reasonable that a trial judge should allocate the dependency exemption to the parent in the highest tax bracket in order to enhance the value of the child support payments to offset the value of the exemption.

For these reasons, the court may order that the parent with primary physical custody sign a waiver of the tax deduction to the non-custodial parent to assist him or her in paying their taxes. This was originally approved by the Maryland appellate courts in the case entitled Wassif v. Wassif, 77 Md. App. 750 (1989).

The issue was revisited more recently in the case entitled Reichert v. Hornbeck, 210 Md. App. 282 (2012). In that case, the Maryland Court of Special Appeals held that the allocation of the tax dependency exemption may be allocated to a non-custodial parent only if it is in the child’s best interest. The court went on to find that if the party requesting the tax deduction can show that his or her actual income places him or her within a higher tax bracket, the court should allocate the exemption to the non-custodial parent “and include an equitable portion of the after-tax increased spendable income within its award of child support to further the best interest of the child.” The reason for this is that the Maryland Child Support Guidelines are based on an “Income Shares Model” which rests upon a child’s ability to receive the same proportion of parental income as he or she would have experienced had the child’s parents remained together. By allocating the dependency exemption to the parent in the higher tax bracket, the court will increase the parents mutual income, and thereby enable the child to receive more of their combined income. However, this will only occur if there is also an increase in the child support being paid by the non-custodial parent. How much of an increase is left unclear by this case, and has not been resolved by the courts. However, since Reichert the court should almost always allocate the dependency exemption to the parent in the higher tax bracket.

What is also notable from Reichert, is that the court overturned a trial court decision in which the trial court allocated the deduction in odd years to one parent and even years to the other. The court found that this was improper because the deduction must be provided to the parent in the higher tax bracket in every year, not in alternating years. You can still negotiate this deduction, and it is common to alternate the deduction between two parents by agreement. But if the matter proceeds to trial, a court should not alternate the deduction, but should allocate it to the parent in the higher tax bracket, and then make some small increase in the child support payment to offset the deduction.