Tax Implications of the repeal of DOMA

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In 1996, amid strenuous efforts to redefine the traditional definition of marriage, the U.S. Congress passed the "Defense of Marriage Act," commonly referred to as DOMA. In short, this federal law defined marriage as a union between one woman and one man. Consequently, all LGBT (lesbian, gay, bisexual, and transgender) couples were excluded from the benefits, and consequences, of marriage within the boundaries of federal law. Perhaps just as importantly, DOMA solidified the power of each state to pass its own laws regarding the acceptance or rejection of LGBT unions.

In June of this year, some 17 years later, the United States Supreme Court overturned the section of DOMA that limited the word “marriage,” for federal purposes, to one man and one woman (the court was hearing the case U.S. v. Windsor). That said, it is important to note that each state still retained its power to decide the definition of marriage within its own borders.

Interestingly, a number of people I’ve spoken to have said, “So what’s the big deal? Why is being married important to gay couples?”  Well that question is best answered by understanding that the advantages married couples have over non-married couples, are myriad. The Governmental Accounting Office measured at least 1,000+ disadvantages LGBT couples faced versus heterosexual couples. Three of the biggest disadvantages listed were:

  • The namesake case heard by the U.S. Supreme Court was U.S. v. Windsor.  In short, Edith Windsor and Thea Spyer, a same-sex couple living in New York, were married in Ontario, Canada in 2007. It is important to note that this was considered a legal marriage under Canadian law. Ms. Spyer died in 2009 and, like any good spouse, left her estate to Ms. Windsor. When Ms. Windsor attempted to claim the federal estate tax exemption for surviving spouses (basically exempts those assets passing from one spouse to another from taxation), the IRS quickly informed her that the exemption did not apply to same-sex marriages, a correct conclusion under the then current law. As a result, Ms. Windsor was on the hook for an estate tax bill exceeding $360,000. Ms. Windsor appealed this assessment all the way to the U.S. Supreme Court. She not only became the poster person for the cause, but also, as a result of the Supreme Court’s decision, she will get all her tax money back! So, the primary advantage as a result of this decision is the federal estate tax exemption for surviving spouses.
  • A LGBT couple can now file a joint federal income tax return (as long as the couple is considered married under state law…more on that below). In many cases, this will save tax dollars.
  • A surviving spouse is entitled to receive the Social Security benefits of a spouse who has passed…but only if you were heterosexual. Now, given the DOMA repeal, a gay spouse will be entitled to the same financial treatment.

So, all good, right? Yes, maybe, and no. More complexity? Of course.

Federal Law vs. State Law

From a federal perspective, LGBT couples will now enjoy the same benefits/consequences of heterosexual couples {the YES answer}. In the following states, LGBT couples can marry and also enjoy the benefits/consequences of marriage: California, Connecticut, Delaware, Iowa, Maine, Maryland, Massachusetts, Minnesota, New Hampshire, Rhode Island, Vermont, Washington, and the District of Columbia {the MAYBE answer}. In all other states, LGBT couples are out of luck relative to being legally married {the NO answer}.

We’ve already discussed the advantages of being legally married under federal law, but what about the state-based issues? Let’s take a quick look at a few significant state issues.

  • Short of the proper medical power of attorney, a gay spouse cannot make medical decisions for a spouse (partner) unable to do so.
  • While not universal, most employers do not make health insurance available to an LGBT partner.
  • No doubt you’ve heard that a spouse cannot be compelled to testify in a court of law against the other spouse? No so for LGBT partners.

So the “yes, maybe, and  no” question of each state’s recognition becomes significant. Why? Because even though federal law now ‘allows’ same-sex unions the same benefits as heterosexual unions, if the state doesn’t recognize a same-sex marriage, gay partners are out of luck since it is the state that licenses marriages.

The Income Tax Nitty Gritty

We now know what DOMA is, how it came about, and how it was repealed, but we still don’t know the effects. You may have noticed that I have said the opportunities of marriage offer both benefits and consequences in tax law. While the DOMA repeal is certainly a win for equality, tax law does not always cooperate. How so?

In 2013, a single taxpayer will begin paying tax at a rate of 33% when taxable income exceeds $183,251.  So, theoretically, married taxpayers should begin paying tax at the 33% rate when taxable income exceeds $366,502 ($183,251 x 2), right? Nope. Married taxpayers begin paying the 33% rate when taxable income exceeds $223,051. Huh? Yep, have you heard of the “marriage penalty?” This is the perfect example. So, while the Supreme Court’s decision in striking down the DOMA definition is a win for same-sex couples, those able to file joint income tax returns may not find it quite so desirable if their income reaches the level invoking the marriage penalty.

The Potential Windfall

We now know that DOMA no longer dictates whether a couple is considered “married” under federal law, so same-sex couples who are considered married by state law will most likely be able to file a joint federal tax return. While there will obviously be interpretations to come, this means that same-sex couples should be able to amend their income tax returns for any year still open under the statute of limitations (currently three years).  Obviously, given the marriage penalty noted above, these couples should have their CPAs run the calculations to determine if a windfall exists. Some will win, some won’t, but regardless of the outcome, same-sex couples have the same options heterosexual couples have (assuming they live in a “YES” state).

The landscape has changed, and there will be various opinions regarding what should or should not be considered. Stay tuned.

Rob Shaff

A Note from the Editor:

While it is possible that some readers may view this article as controversial, please be assured that it is not our intention to offend anyone. We do however consider this topic as newsworthy since it has significant consequences which both tax professionals and taxpayers should clearly be aware of.

DISCLAIMER: This article is for informational purposes only and does not constitute tax or legal advice. If you want tax or legal advice, please contact a qualified tax professional or attorney.