Tax Savings for Domestic Partners

Kevin McCormally, Editorial Director, Kiplinger publications
Friday, February 22, 2008; 9:56 AM

In the be-careful-what-you-ask-for realm, many gay and lesbian couples around the country may be kicking themselves for th eir efforts to win the right to file joint state income tax returns with their partners.

Now that tax season is upon us, more and more couples are discovering what a mess it can be when the federal government and the states have starkly different rules. Her e's help to guide you through the latest tax maze.

In Massachusetts (where same-sex couples can marry) and in California, Conne cticut, the District of Columbia, New Jersey and Vermont (which recognize civil unions or registered domestic partners), qualifying couples can file joint state income tax returns. That's still verboten at the federal level.

In California, unmarried, opposit e-sex cohabiting couples of which at least one partner is at least age 62 may also register as domestic partners and file joint stat e tax returns. That's prohibited by Uncle Sam, too.Since the states start their computations with a joint federal return, same-sex c ouples basically must complete a total of four tax returns.

¿ First, each partner must complete an individual federal Form 1040 (or 1040-A or 1040-EZ) to file with the IRS;

¿ Then, the couple must create a mock or dummy joint federal return co mbining income, adjustments, deductions and credits;

¿ Finally, they use that fantasy return as the jumping off point to pr epare a joint state tax return.

Tricky areas abound

Same-sex couples in Connecticut, Massachusetts and Vermont have been allowe d to file joint returns in previous years, but the 2007 crop of returns being filed this spring is the first to permit joint returns for domestic partners and civil union members in California, the District of Columbia and New Jersey. For an idea of the kinds of m ine fields you might have to traverse, consider:

¿ Capital gains and losses. On individual federal returns, each partner's gains and losses are netted separately. Let's say Pat has $20,000 of net long-term gain and Chris has $20,000 of net long-term losses. On individual federal returns, Pat would owe tax on $20,000 of gain. Chris would get to deduct $3,000 of loss against other income (the maximum deduction in any one year). On a mock joint return, however, Chris's loss would offset Pat's gain and no tax would be due (an d that's what would carry over to the real state joint return). Let's say, however, that both Pat and Chris suffered losses in 2007. O n individual returns, each would be allowed to deduct up to $3,000 against other income. On the joint return, however, they would be limited to a single $3,000 loss. Understanding Capi tal Gain and Losses

¿ Real estate losses. Federal law allows taxpayers (either married or single) with incomes under certa in thresholds to deduct up to $25,000 of passive real estate losses. Let's say Pat and Chris each took a drubbing in real estate in 2 007 and each suffered $25,000 of qualifying losses. On their individual federal returns, each could deduct $25,000. But on a mock jo int return only a single $25,000 loss would be allowed.

¿ Mortgage interest deduction. On a federal return, a homeowner¿whether married or single¿can deduct interest on up to $1 million of debt used to buy a home and up to $100,000 of additional debt secured b y a home used for any other purpose. If Pat and Chris each have $750,000 of qualifying debt, they can each deduct all of the interes t on individual federal returns. On a dummy joint return, however, the write-off would be crimped by the $1 million and $100,000 lim its. Home Ownership Tax Deductions

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