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The potential tax consequences of the Holmes-Cruise divorce

Last week, it was announced that Katie Holmes and Tom Cruise are planning to divorce, leaving fans either completely shocked or wholly unsurprised, depending on their opinion of the Holmes-Cruise marriage. But regardless of their celebrity status, Holmes and Cruise must now go to work hashing out the same issues as other, non-celebrity couples in Las Vegas and throughout the country, such as property division, alimony, and child custody and support, among others.

Media reports indicate that Holmes and Cruise have a prenuptial agreement which gives Holmes $3 million for every year of their marriage. Because they were married for 5 years, Cruise will reportedly owe her $15 million. But even if their divorce settlement ends up being that cut and dry, which it likely will not, there are important tax considerations which could significantly increase or decrease the amounts the spouses pay and receive.

For example, it is important to note that property settlements have no tax consequences. So if, as has been reported, the prenup also awards Holmes the couple’s primary residence, she will not have to pay taxes on that receipt. If, however, Holmes sells the house at a significantly higher price than the couple paid for it, she will be taxed on the additional gain.

Similarly, transfers that are “incident to divorce” are also generally tax-free. According to IRS rules, this means that transfers between spouses that occur within one year after the divorce becomes final or that are “related” to the end of the marriage have no tax consequences.

Media reports indicate that the most highly contested issue in the Holmes-Cruise divorce will likely be custody of the couple’s six-year-old daughter. Hopefully, they retain a skilled family law attorney to help them deal with these and all other issues that come up in the course of their split.

Source: Forbes, “Katie Holmes Divorcing Tom Cruise, Scientology And Taxes,” Robert W. Wood, June 30, 2012

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