When filing a joint tax return, married taxpayers are often privy to certain tax benefits. Generally, married taxpayers take advantage of a higher standard deduction and a lower tax rate when filing their taxes together. However, as a result of a joint filing, both taxpayers are equally responsible for the possible liability that comes with joint filing status. But what if one spouse wasn’t exactly honest about their income when filing the tax return, and the other spouse didn’t know? By requesting Innocent Spouse Relief, a spouse can be relieved of the responsibility for paying tax, interest, and penalties if the other spouse did something wrong on their tax return.
In order to qualify for Innocent Spouse Relief, you must meet all of the following conditions:
- You filed a joint return which has an understatement of tax due to erroneous items;
- You can establish that at the time you signed the joint return, you did not know, and had no reason to know, that there was an understatement of tax;
- Taking into account all the facts and circumstances, it would be unfair to hold you liable for the understatement of tax; and
- You and your spouse (or former spouse) have not transferred property to one another as part of a fraudulent scheme. A fraudulent scheme includes a scheme to defraud the IRS or another third party, such as a creditor, ex-spouse, or business partner.
When determining whether there has been an understatement of tax due to erroneous items, the IRS will evaluate income received by your spouse but omitted from the joint return. Additionally, deductions, credits, and property basis may be erroneous items if they were incorrectly reported on the joint return. For example, if a credit is taken for something to which neither you nor your spouse were entitled, this may be considered an erroneous item.
When considering whether you actually knew of the understatement, the IRS will not only consider your evidence establishing that you did not know and had no reason to know of the understatement, but will also consider whether a reasonable person under similar circumstances would have known of the understatement. In doing so, the IRS will consider all the facts and circumstances, including:
- The nature of the erroneous item and the amount of the erroneous item relative to other items;
- The financial situation of you and your spouse (or former spouse);
- Your educational background and business experience;
- The extent of your participation in the activity that resulted in the erroneous item;
- Whether you failed to ask, at or before the time the return was signed, about items on the return or omitted from the return that a reasonable person would question; and
- Whether the erroneous item represented a departure from a recurring pattern reflected in prior years' returns (for example, omitted income from an investment regularly reported on prior years' returns).
In determining whether it would be unfair to hold you liable for the understatement of tax, the IRS will again use a facts and circumstances test in order to determine liability. Such factors include:
- Whether you received a significant benefit, either directly or indirectly, from the understatement;
- Whether your spouse (or former spouse) deserted you;
- Whether you and your spouse have been divorced or separated; and
- Whether you received a benefit on the return from the understatement.
Lastly, in order to qualify for Innocent Spouse Relief, you typically must file IRS Form 8857 no later than two years after the IRS first attempted to collect the tax from you.
Generally, community property laws require you to allocate community income and expenses equally between both spouses. However, community property laws are not taken into account in determining whether an item belongs to you or your spouse (or former spouse) for purposes of requesting any relief from liability. This means, for example, that if the amount of tax owed on the joint tax return is $10,000 and you are seeking Innocent Spouse Relief for a certain portion of it, if the income is attributable to the non-requesting spouse, you would not be responsible for the tax relating to that item of income.
If the IRS begins an examination of your return during the six-month period before the expiration of the statute of limitations on assessment, the latest time for requesting relief is 30 days after the date of the IRS’ initial contact letter to you. The period of limitations on assessment is the amount of time, generally three years from the date the return was filed, that the IRS has to assess taxes against you.
In the event that you do not qualify for Innocent Spouse Relief, there are other options. For example, with Separation of Liability Relief, you may separate the allocation of additional tax owed between you and your current or former spouse when an item was not properly reported on a joint return. In that scenario, you may only be responsible for the amount of tax allocated to you. Similarly, Equitable Relief may apply when you do not qualify for Innocent Spouse Relief or Separation of Liability Relief. For example, you may qualify for Equitable Relief for something not reported properly on a joint return which is generally attributable to you. Likewise, you may qualify for Equitable Relief if the amount of tax reported is correct on your joint return, but the tax was not paid with the return.
For more information on the types of relief available and several liabilities of a joint tax return, continue to visit our website for related articles. To ensure you are making the best choice when seeking tax liability relief, contact The Wilson Firm today.
 However, if you are requesting relief based on community property laws – like the laws of Texas – you must file Form 8857 no later than six months before the expiration of the statute of limitations on assessment (including extensions) against your spouse or former spouse for the tax year for which you are requesting relief. This will be discussed more fully in a later article.