Moriarty & Dee, Attorneys at Law, in Buffalo, New York.

Innocent Spouse Relief:
(And Separation of Liability and Equitable Relief)

INTRODUCTION
Many married taxpayers choose to file a joint return because of certain benefits this filing status allows. Both taxpayers are jointly and individually responsible for the tax and any interest or penalty due on the joint return even if they later divorce. This is true even if a divorce decree states that a former spouse will be responsible for any amounts due on previously filed joint returns. One spouse may be held responsible for all the tax due even if all the income was earned by the other spouse.

In some cases, a spouse (or former spouse) will be relieved of the tax, interest, and penalties on a joint tax return. Three types of relief are available.

1)    Innocent spouse relief.
2)    Relief by separation of liability.
3)    Equitable relief.

This publication explains these types of relief, who may qualify for them, and how to get them. You can also use the Innocent Spouse Tax Relief Eligibility Explorer at www.irs.gov to see if you qualify for innocent spouse relief. Click on “Individuals,” “Innocent Spouse,” and “Explore if you are an Eligible Innocent Spouse.”

You can use flowcharts at the end of this publication to see if you qualify for innocent spouse relief, relief by separation of liability, or equitable relief. You may also want to see Questions & Answers, near the end of this publication for a list of questions and answers about these types of relief.

TIP You are not required to figure the tax, interest, and penalties that qualify for relief. The IRS will figure these amounts after you file Form 8857, Request for Innocent Spouse Relief.

HOW TO REQUEST RELIEF
File Form 8857 or similar statement signed under penalties of perjury to ask the IRS for the types of relief discussed in this publication. You only need to file one Form 8857 even if you are requesting relief for more than one tax year.

You must attach a statement to Form 8857 explaining why you believe you qualify for relief. You must also provide certain information for each type of relief you are requesting. See the instructions for Form 8857 for more information.

You can help the processing of your request by completing Form 12510, Questionnaire for Requesting Spouse, and attaching it to Form 8857. To get Form 12510, go to www.irs.gov or call 1-800-TAX-FORM (1-800-829-3676).

The IRS will review your Form 8857, figure the understatement or underpayment of tax and related interest and penalties, and let you know if you qualify.

A completed Form 8857 is shown later.

When to file Form 8857. You should file Form 8857 as soon as you become aware of a tax liability for which you believe only your spouse or former spouse should be held liable. The following are some of the ways you may become aware of such a liability.

- The IRS is examining your tax return and proposing a deficiency.
- The IRS sends you a notice.

You must file Form 8857 no later than 2 years after the date on which the IRS first attempted to collect the tax from you after July 22, 1998. Examples of attempts to collect the tax from you are garnishment of your wages and applying your refund in a later year to the tax due for a previous year.

IRS Spousal Notification. The IRS informs your spouse (or former spouse) to participate in the determination of the amount of relief from liability. This applies to requests for relief from joint and several liability on a joint return and from liability arising from community property laws. If you are requesting relief from joint and several liability on a joint return, the IRS must also inform your spouse of its preliminary and final determination regarding your request for relief.

By requesting innocent spouse relief, you can be relieved of responsibility for paying tax, interest and penalties if your spouse (or former spouse) improperly reported items or omitted items on your tax return. Generally, the tax, interest, and penalties that qualify for relief can only be collected from your spouse (or former spouse). However, you are jointly and individually responsible for any tax, interests, and penalties that do not qualify for relief. The IRS can collect these amounts from either you or your spouse (or former spouse).

INNOCENT SPOUSE RELIEF:
By requesting innocent spouse relief, you can be relieved of responsibility for paying tax, interest and penalties if your spouse (or former spouse) improperly reported items or omitted items on your tax return. Generally, the tax, interest, and penalties that qualify for relief can only be collected from your spouse (or former spouse). However, you are jointly and individually responsible for any tax, interests, and penalties that do not qualify for relief. The IRS can collect these amounts from either you or your spouse (or former spouse).

The IRS will figure the tax you are responsible for after you file Form 8857. You are not required to figure this amount. But if you wish, you can figure it yourself. See How to Allocate the Understatement of Tax, later.

You must meet all of the following conditions to qualify for innocent spouse relief.

1) You filed a joint return which has an understatement of tax due to erroneous items (defined later) of your spouse (or former spouse).

2) You 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. (See Actual Knowledge or Reason to Know, later.)

3) Taking into account all the facts and circumstances, it would be unfair to hold you liable for the understatement of tax. (See Indications of Unfairness for Innocent Spouse Relief, later.)

UNDERSTATEMENT OF TAX
An understatement of tax is generally the difference between the total amount of tax that should have been shown on your return and the amount of tax that was actually shown on your return.

Example. At the time you signed your joint return, you knew that your spouse did not report $5,000 of gambling winnings. The IRS examined your tax return several months after you filed it and determined that your spouse’s unreported gambling winnings were actually $25,000. This resulted in a much larger understatement of tax than you knew about at the time you signed your return. You established that you did not know about, and had no reason to know about, the additional $20,000 because of the way your spouse handled gambling winnings. The understatement of tax due to the $20,000 will qualify for innocent spouse relief if you meet the other requirements. The understatement of tax due to the $5,000 of gambling winnings will not qualify for relief.

ERRONEOUS ITEMS
Taking into account all the facts and circumstances, it would be unfair to hold you liable for the understatement of tax. (See Indications of Unfairness for Innocent Spouse Relief, later.)

Example. At the time you signed your joint return, you knew that your spouse did not report $5,000 of gambling winnings. The IRS examined your tax return several months after you filed it and determined that your spouse’s unreported gambling winnings were actually $25,000. This resulted in a much larger understatement of tax than you knew about at the time you signed your return. You established that you did not know about, and had no reason to know about, the additional $20,000 because of the way your spouse handled gambling winnings. The understatement of tax due to the $20,000 will qualify for innocent spouse relief if you meet the other requirements. The understatement of tax due to the $5,000 of gambling winnings will not qualify for relief.Erroneous items are either of the following.

1) Unreported income. This is any gross income item received by your spouse that is not reported.

2) Incorrect deduction, credit, or basis. This is any improper deduction, credit, or property basis claimed by your spouse.

The following are examples of erroneous items.

1) The expense for which the deduction is taken was never paid or incurred. For example, your spouse, a cash-basis taxpayer, deducted $10,000 of advertising expenses on Schedule C (Form 1040), but never paid for any advertising.

2) The expense does not qualify as a deductible expense. For example, your spouse claimed a business fee deduction of $10,000 that was for the payment of state fines. Fines are not deductible.

3) No factual argument can be made to support the deductibility of the expense. For example, your spouse claimed $4,000 for security costs related to a home office, which were actually veterinary and food costs for your family’s two dogs.

INDICATIONS OF UNFAIRNESS FOR INNOCENT SPOUSE RELIEF

The IRS will consider all of the facts and circumstances of the case in order to determine whether it is unfair to hold you responsible for the understatement. Two indicators the IRS may use to decide that it is unfair to hold you responsible for the tax are whether you:
1) Received any significant benefit from the understatement of tax, or
2) Were later divorced from or deserted by your spouse.

Significant benefit. You can receive significant benefit either directly or indirectly. For example, if your spouse did not report $10,000 of income on your joint return, you can benefit directly if your spouse shares that $10,000 with you. You can benefit indirectly from the unreported income if your spouse uses it to pay extraordinary household expenses.

You do not have to receive a benefit immediately for it to be significant. For example, money your spouse gives you several years after he or she received it or amounts inherited from your spouse (or former spouse) can be a significant benefit.

Tip.Support payments that you receive as a result of a divorce proceeding are not a significant benefit.

RELIEF BY SPARATION OF LIABILITY

Under this type of relief, you allocate (divide) the understatement of tax (plus interest and penalties) on your joint return between you and your spouse (or former spouse). The understatement of tax allocated to you is generally the amount you are responsible for. See How to Figure Your Separation of Liability, later.

Tip. You can request this type of relief whether or not you request innocent spouse relief.

To request relief by separation of liability, you must have filed a joint return and meet either of the following requirements at the time you file Form 8857.

- You are no longer married to, or are legally separated from, the spouse with whom you filed the joint return for which you are requesting relief. (Under this rule, you are no longer married if you are widowed.)

- You were not a member of the same household as the spouse with whom you filed the joint return at any time during the 12-month period ending on the date you file Form 8857.

Burden of proof. You have the burden of proof in establishing the basis for separating your liability.

Invalid request. Even if you meet the requirements discussed previously, a request for separation of liability will not be granted in the following situations.
1) The IRS proves that you and your spouse transferred assets as part of a fraudulent scheme.

2) The IRS proves that at the time you signed your joint return, you had actual knowledge of any items giving rise to the deficiency that were allocable to your spouse.

3) Your spouse (or former spouse) transferred property to you to avoid tax or the payment of tax. See Transfers of property to avoid tax, later.

In situations (2) and (3), a request will be denied only for the part of the deficiency due to the incorrect items about which you had actual knowledge, or to the extent of the value of the property transferred. If you establish that you signed your joint return under duress, then it is not a joint return, and you are not liable for amounts from that return. However, you may be required to file a separate return for that tax year.

Example. Bill and Karen Green filed a joint return showing Karen’s wages of $50,000 and Bill’s self-employment income of $10,000. The IRS audited their return and found that Bill did not report $20,000 of self-employment income. The additional income resulted in a $6,000 understatement of tax, plus interest and penalties. After obtaining a legal separation from Bill, Karen filed Form 8857 to request relief by separation of liability. The IRS proved that Karen actually knew about the $20,000 of additional income at the time she signed the joint return. Bill is liable for all of the understatement of tax, interest, and penalties because all of it was due to his unreported income. Karen is also liable for the understatement of tax, interest, and penalties due to the $20,0000 of unreported income because she actually knew of the item. The IRS can collect the entire deficiency from either Karen or Bill.

Transfers of property to avoid tax. If your spouse transfers property to you for the main purpose of avoiding tax or payment of tax, the tax liability allocated to you will be increased by the value of the properly transferred. A transfer will be presumed to have as its main purpose the avoidance of tax or payment of tax if the transfer is made after the date that is 1 year before the date on which the IRS sent its first letter of proposed deficiency allowing you an opportunity for a meeting in the IRS Appeals Office. This presumption will not apply if the transfer was made under a divorce decree, separate maintenance agreement, or a written instrument incident to such an agreement. The presumption will also not apply if you establish that the transfer did not have as its main purpose the avoidance of tax or payment of tax.

HOW TO FIGURE YOUR SEPARATION OF LIABILITY
The IRS will figure your separation of liability and figure any related interest and penalties after you file completed Form 8857 with the required attachment. You are not required to figure these amounts. But if you wish, you can figure your separation of liability yourself by using Worksheet 1 and instructions that follow. However, if you filed Form 8814 to report your child’s tax liability on your joint return, do not include that liability when figuring your separation of liability. Allocate it as appropriate between you and your spouse. Also do not include household employment taxes that are reported on Form 1040.

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