Same-sex couples could see tax windfalls

November 14, 2012: 7:23 AM ET
gay marriage
The Supreme Court is expected to discuss whether to hear cases challenging the Defense of Marriage Act, or DOMA, later this month.
NEW YORK (CNNMoney)

If the U.S. Supreme Court strikes down the Defense of Marriage Act, the 1996 law that defines marriage as solely between a man and a woman, many same-sex couples could be in for substantial tax windfalls.

The Supreme Court is expected to discuss whether to hear cases challenging the Defense of Marriage Act, or DOMA, later this month. If the court decides to review the law, it could later rule that same-sex couples married in states where gay marriage is legal should also be considered married in the eyes of the federal government.

If this happens, the financial landscape for same-sex couples would change drastically. And not just going forward. Some couples who are already married at a state level would suddenly qualify for refunds of estate or income taxes that they paid as a result of DOMA going back to 2009, said Nanette Miller, head of the lesbian, gay, bisexual and transgender (LGBT) practice at accounting firm Marcum LLP.

Since same-sex couples can't file federal taxes jointly -- and can't combine their incomes and deductions to take advantage of lower tax rates and certain credits -- many pay thousands of dollars a year in extra income tax. This is especially true when one of the spouses earns a lot more than their partner.

Related: Same-sex couples: We just want equal benefits

Miller estimates that, on average, clients who would qualify for extra income tax refunds in the event that DOMA is overturned could expect to receive refunds of around $10,000 for each year they were married since 2009.

And depending on the individual situation, the windfalls could be much larger -- especially since same-sex couples would also be able to claim the extra tax that was paid on a home sold in one person's name, money gifted to a spouse or health insurance benefits received through a partner's plan, said Ken Weissenberg, a partner at accounting firm EisnerAmper.

"[On the very high end], you're potentially talking $40,000, $50,000, $60,000 -- the numbers could be off the charts," said Weissenberg. "I think it will be a very pleasant surprise for a lot of them."

The gay marriage tax trap

Estate taxes would be fair game, too. Currently, the surviving spouse in a heterosexual marriage can inherit their spouse's estate tax-free, while the surviving partner in a same-sex relationship is charged a 35% estate tax on anything that is transferred in excess of the exemption (so anything more than $3.5 million for 2009 and $5 million in 2011).

If DOMA is overturned, those who paid taxes on their deceased spouse's estate could amend their estate tax return and be refunded the extra money they paid.

In one case challenging DOMA that the Supreme Court may choose to review, Edith Windsor of New York, had to pay more than $300,000 in estate taxes when her partner died. All of that would be returned to her if DOMA is found unconstitutional, said Weissenberg.

Related: Firms make financial planning more gay-friendly

Same-sex couples who have been married since 2009 or earlier in a state or country where gay marriage is legal need to act fast, though. You typically only have three years from when your taxes were filed to amend your returns. So people who filed their 2009 taxes on April 15, 2010 and want to amend them will have until April 15, 2013 to file what is called a protective claim.

Doing this will ensure that if the Supreme Court hears a DOMA case after that statute of limitations expires, the IRS will have a record of the claim and your refund for that year will be protected, said Weissenberg.

To claim a refund for income tax, couples must amend their returns by changing their filing status to "married filing jointly" and recalculating the amount owed. They must also write "protective refund claim" across the top of the amended return and attach a statement explaining that, in the event DOMA is found to be unconstitutional, they will be eligible to file taxes jointly and this would be the new tax liability based on that status, said Weissenberg.

Before doing anything, however, check with your accountant to make sure it makes sense to file a claim. Some couples won't benefit from amending their returns and filing jointly. If both spouses have similar incomes, for example, it's possible they won't be owed anything.

Related: Gay marriage boosts NYC's economy in first year

Weissenberg said some of his clients are nervous that filing a protective refund claim will trigger an audit. While amended returns are typically audited at a higher rate, he said it all depends on whether it's worth it to the client. "If they determine that the amounts [they would get back] are significant, they should definitely file the protective claim," he said.

Of course, if DOMA is upheld by the Supreme Court, no one will receive a refund. But if the court decides to strike down the law, prepare to wait for the money you're owed: The IRS will be dealing with a huge flurry of amended tax returns, said Miller.

Do you plan to file a protective refund claim? If so, how much money do you expect to get back if DOMA is struck down? Email Blake.ellis@turner.com for the chance to be included in an upcoming story.
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