June 27, 2013 -- While the Supreme Court's decision to strike down the Defense of Marriage Act is a victory for same-sex couples, many will end up footing higher tax bills if they legally say, "I do."
If they are legally married in their state, same-sex couples would be subject to the same "marriage penalty" or "marriage bonus" as other married couples, depending on how much each person makes and how different their incomes are.
Roberton Williams, Urban-Brookings Tax Policy Center's Sol Price Fellow, said legislation enacted in 2001 and 2003 protects most middle-income households from marriage penalties, increasing the size of marriage bonuses, but low- and high-income couples can incur substantial marriage penalties, most often when both spouses have similar incomes.
"More income is likely to get taxed at a higher rate. It's how our progressive tax system works," Williams said.
Except for the first two tax brackets of 10 and 15 percent, the tax brackets for couples are not twice as wide as they are for singles.
The tax differences between singles and couples are stark when low-income and high-income earning couples get married, and if they have children.
For example, if a single person earns $20,000 and has a child under age 17, that leads to:
- $3,250 in taxable income
- $1,000 child tax credit
- $2,856 Earned Income Tax Credit
If that person marries someone with the same profile who earns $20,000 with a child under 17, the couple would get a $2,000 child tax credit for the two children, but they would incur a "marriage penalty" of $4,517. That couple would have $12,200 in taxable income and only receive $1,764 for the Earned Income Tax Credit.
The Tax Policy Center's Marriage Bonus and Penalty Tax Calculator on its website shows how the "marriage bonus" is magnified if a couples' incomes vary more.
In another example, if one person earns $125,000 and the other earns $25,000 and neither have children, they receive a "marriage bonus" of $2,940. But if one person earns $150,000 and the other doesn't have an income, the couple gets a big "marriage bonus" of $8,136.
"All we did was shift earnings between people and you have results all over the place," Williams said.
The differences are even more stark for the wealthy.
If each person earns $400,000 and neither have kids, there is a "marriage penalty" of $31,379. If one person earns the whole $800,000 while the other earns nothing, the couple have a marriage bonus of $12,533.
"When incomes are split individually, you are taxed in lower brackets," Williams said. "The tax rate on additional income is higher. The more income you have, the higher rates you have if you split incomes apart, that progressivity hits the higher earner hard and you don't save anything on the low earner because there is no tax paid at all."
Williams explains that the tax system was established with social structures from years ago in mind.
"Back then, the husband went out and earned a living, and the wife stayed with the kids," he said. "As we moved to that being less-common situation, both spouses tend to work, and they tend to have similar income, you are more likely now to have a marriage penalty, but there still are the legal benefits."
Michael Stutman, head of the family practice at Mishcon de Reya and president of the American Academy of Matrimonial Lawyers, New York Chapter said that despite these tax implications of the "marriage penalty', it's hard to deny the net economic benefits.
"Even if there are more income taxes it is a mistake to look at the overall economic impact through that single lens," he said.
His examples include Social Security benefits, the absence of estate and gift taxes, and the non-recognition for tax purposes of inter-spousal transfers.
Williams says the economic tax benefits depends on each couple's financial situation.
While estate taxes motivated the DOMA case, in which Edith Windsor sued the federal government because her wife's estate had to pay more than $363,000 in estate taxes, less than 0.2 percent of estates are big enough to owe tax.
An estate may claim an unlimited spousal exemption for inherited assets up to $5.25 million. Any unused part of that limited exemption carries over to the estate of the surviving spouse, guaranteeing that $10.5 million of the couple's combined assets will go tax-free to the heirs.
Questions about the Supreme Court's decision will continue to be raised in the days to come.
Thomas Spychalski, partner with accounting and business advisory firm ParenteBeard, said same-sex couples should consult with tax and legal advisors as federal treatment regarding income and estate taxes varies from state recognition to non-recognition of same-sex marriages. Since the decision applies to states that recognize same-sex marriage, it is not clear what may happen if same-sex married couples move to a non-recognition state, he said.
Henry Guberman, another partner with ParenteBeard, said same-sex couples who are now eligible to file joint federal tax returns should consider "common pitfalls."
Same-sex couples, like heterosexual couples, should determine whether to file their tax returns as married filing jointly and married filing separately depending on which filing status reduces combined income taxes, he said.
"This is generally recommended when each party earns approximately the same income. Combining individual incomes can put the combined income into a higher tax bracket compared to filing separately," Guberman said.