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IRS Recognizes California’s Community Property Law for Registered Domestic Partners

The IRS has just issued a significant private letter ruling affecting registered domestic partners in California — they must now each report half of their community earnings on their federal individual tax returns. As the SF Chronicle reports, the IRS’s decision reverses its earlier position requiring California’s registered domestic partners to each report on their own federal tax return only the income they personally earned, not one-half of their community income.

As illustrated in the Chronicle article, this decision means that, if one partner earns $100,000 and the other earns $60,000, each would have to report $80,000, half their combined income. Each partner is entitled to half of the credits for income tax withholding from the paychecks, and both partners may be liable for unpaid taxes.

This ruling is a boon for domestic partnerships in which one partner is a high income earner and the other is not, because the high earner may benefit from income splitting by paying federal tax at the partner’s lower rate. For tax years beginning after December 31, 2006, and before June 1, 2010, registered domestic partners may, but are not required to, amend their federal returns. IRS Legal Memorandum 201021050 (.pdf).

The ruling clarifies the requirement to treat partnership earnings as community property for state property law and income tax purposes does not result in a taxable gift for gift tax purposes. IRS Letter Ruling 201021048 (.pdf).

For complete coverage of income, gift, and estate tax considerations for domestic partners, see California Domestic Partnerships, chap 15 (Cal CEB 2005).

© The Regents of the University of California, 2010. Unauthorized use and/or duplication of this material without express and written permission from this blog’s author and/or owner is strictly prohibited.

One Response

  1. The IRS ruling is wrong.
    I couldn’t disagree more with the premise that the ruling is positive. The IRS ruling hurts domestic partners and does not help most of them.
    It forces Domestic Partners to file their tax returns in a way that may not be beneficial to them.
    Currently the IRS refuses to allow Domestic Partners to file as married. In all other relationship/business ownership cases the IRS uses State property and ownership laws for Federal income tax purposes. In California’s case that means the only legal entity the IRS recognizes for Domestic Partners is as partners in a partnership. Under California law partnerships do not have to be written, and income and expenses can be allocated by partners by agreement. Under this premise the IRS ruling is non-sense and should/will be overturned.
    Some of the more than 100 harms that ALWAYS requiring splitting all the joint income in half will contribute to:
    1) Low income parents will lose grants and scholarships based on their income for their children in college.
    2) Income from dividends and interest cannot be allocated to the lower income partner resulting in higher taxes.
    3) Expenses for the payment of the mortgage and property taxes cannot be allocated to the higher income partner who actually made the payments. In other words the IRS now is trying to say that Domestic Partners must file as single – yet refuses to allow them to take their mortgage interest deduction which they made 100%.
    4) Self employed persons with spouses that get health coverage for them will have their health benefits taxed 100% on one partner’s Federal return and o% deductable on the other partners return. In other words the IRS wins both ways and the taxpayers lose both ways.
    The IRS ruling is twisted and illogical. It only benefits Domestic Partnerships where one partner is rich and the other a stay at home partner. For over 90% of Domestic Partners it will hurt them. Note the 90% figure is my estimate based on over 30 years of income tax preparation.
    My only hope is that the IRS having really messed up its rulings will have to recognize the marriages as marriages and put all this nonsense to rest.
    Sorry but posting must be anonymous to protect me and my clients from IRS retaliation.

    anonymous@4privatemail.com

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