Introduction: Divorce, Business Ownership, and Taxes
Divorce is always complicated, but for Texas small business owners, the process becomes even more layered. Beyond dividing assets and negotiating custody, you must also consider the tax impact of divorce settlements. Business ownership brings unique tax challenges—income distribution, capital gains, depreciation, and self-employment taxes—all of which can change once a marriage ends.
If you’ve been asking yourself, “How are taxes impacted by divorce settlements in Texas?” you’re not alone. Many entrepreneurs don’t realize that divorce doesn’t just divide assets—it can also reshape how you file, report, and pay taxes for years to come.
This article breaks down what Texas business owners need to know about divorce and taxes, covering everything from filing status to capital gains to common mistakes that could cost you thousands.
Divorce and Filing Status: What Changes First
Your tax filing status is one of the first things impacted by divorce. Whether you file as married filing jointly, married filing separately, or single depends on your legal marital status as of December 31 of the tax year.
- Still legally married on Dec. 31? You can usually file jointly or separately.
- Divorced by Dec. 31? You must file as “single” or “head of household” (if you qualify).
For business owners, this change can be significant:
- Filing jointly often allows higher deductions and credits.
- Filing as single or head of household may result in a higher tax bill, depending on your income.
👉 Example: If your small business income pushes you into a higher tax bracket, losing the ability to split income across a joint return could increase your tax liability.
📎 Helpful resource: IRS – Filing Status
Division of Assets and Community Property Rules in Texas
Texas is a community property state. This means that nearly all assets acquired during marriage—including income from a business—are considered jointly owned and must be divided equitably in a divorce.
What This Means for Business Owners
- Business Value Counts as Community Property: If your business was created or grew during the marriage, its value (or a portion of it) will likely be subject to division.
- Tracing Separate vs. Marital Assets: If you owned the business before marriage, part of its value may still be considered community property if it appreciated during the marriage. Additionally, income from that business is community property
- Impact on Taxes: When assets are divided, the IRS doesn’t usually treat the transfer between spouses as taxable. But the tax consequences can arise later when assets are sold or withdrawn.
📎 Helpful resource: Texas Family Code – Chapter 7: Award of Marital Property
Business Income and Self-Employment Taxes After Divorce
Business owners often face the biggest surprises when it comes to ongoing tax obligations.
- Self-Employment Taxes: If you previously filed jointly, your spouse’s income may have helped offset business tax liability. After divorce, you alone bear the self-employment tax burden.
- Estimated Taxes: Without a joint filer, your quarterly estimated tax payments may need adjustment.
- Withholding on Support Payments: While spousal support (alimony) is no longer deductible or taxable after the 2017 tax reform, child support payments also carry no tax deduction. This can shift overall cash flow.
👉 Example: A construction business owner who paid quarterly taxes based on joint income may suddenly find themselves underpaying once they’re filing single.
📎 Helpful resource: IRS – Self-Employment Tax
Capital Gains Taxes and Business Asset Division
When a business or marital property is sold as part of a divorce, capital gains taxes may come into play.
Common Scenarios for Business Owners
- Sale of the Business: If you sell the business outright to split the proceeds, you may owe capital gains tax.
- Division of Property: If one spouse keeps the business but gives up other assets (like real estate), the tax burden may shift unevenly.
- Future Asset Sales: Even if transfers during divorce aren’t taxed, whoever ends up selling an asset later bears the tax liability.
👉 Example: If you give up your share of the business in exchange for the marital home, and your ex later sells the business for a profit, they will face the capital gains—not you.
📎 Helpful resource: IRS – Capital Gains and Losses
Retirement Accounts, Investments, and Divorce Taxes
Many Texas small business owners also have retirement savings—401(k)s, IRAs, pensions, or SEP IRAs. These accounts require special handling in divorce.
- Qualified Domestic Relations Order (QDRO): Needed to divide retirement plans without triggering early withdrawal penalties.
- IRA Division: Typically requires a “transfer incident to divorce” for tax-free division.
- Tax Consequences: If you withdraw instead of transfer, you could face both income tax and early withdrawal penalties.
📎 Helpful resource: U.S. Department of Labor – QDROs
Business Structure and Tax Implications After Divorce
Your business structure—LLC, S-Corp, partnership, or sole proprietorship—affects how taxes are handled post-divorce.
- LLC or Partnership: Ownership interests may need to be reassigned, which could trigger buyout or restructuring issues.
- S-Corp: Dividing shares could affect control and distributions.
- Sole Proprietorship: Simpler to manage legally, but income is fully reported by the owner post-divorce.
👉 Example: If your spouse was a silent partner in your LLC, their buyout during divorce could lead to complex restructuring and tax consequences.
Mistakes to Avoid as a Texas Business Owner Going Through Divorce
- Failing to Adjust Estimated Taxes: Many business owners keep paying based on old income assumptions.
- Ignoring Capital Gains: Giving up assets without understanding future tax liability can backfire.
- Mixing Business and Personal Accounts: Courts and the IRS scrutinize mixed finances heavily.
- Not Planning for Support Obligations: Child support and property settlements impact business cash flow.
- Overlooking Business Deductions Post-Divorce: You may lose deductions tied to your ex-spouse.
Practical Steps to Take Now
- Gather financial documents: business records, tax returns, and bank statements.
- Work with both a divorce attorney and a CPA familiar with high-asset cases.
- Reassess your tax planning strategy for the next 1–3 years.
- Consider the long-term, not just the immediate, tax impact of settlement offers.
Frequently Asked Questions (FAQs)
- How are taxes impacted by divorce settlements in Texas?
Divorce can change filing status, tax liability on business income, capital gains exposure, and how retirement accounts are handled. - Do I have to pay capital gains tax if I transfer my business to my ex-spouse?
No, asset transfers as part of divorce are usually non-taxable. But if your ex later sells, they will owe capital gains. - What happens if my spouse and I co-own the business?
You may need to restructure, buy out your spouse, or sell the business. Each option carries different tax implications. - Is spousal support taxable in Texas?
No. Since 2019, spousal support is no longer deductible by the payer or taxable to the recipient. - Can child support be deducted from my taxes?
No. Child support payments are not deductible, and they are not taxable to the recipient. - How do I handle retirement accounts in divorce?
Through a QDRO (for 401(k)s and pensions) or a tax-free transfer for IRAs. Without proper handling, you may face taxes and penalties. - What if I sell my business as part of the divorce?
You may owe capital gains tax depending on the sale price, structure, and basis of the business. - How does divorce affect my estimated tax payments?
You may need to recalculate based on your single status and adjust quarterly payments to avoid penalties. - Can I still claim my children as dependents after divorce?
Usually, only one parent can claim a child. The IRS rules will determine eligibility. - What documents should I collect before divorce?
Tax returns, business financials, retirement statements, bank records, and loan documents are essential. - Will the IRS audit me because of divorce?
Not automatically. But discrepancies in reported income, business expenses, or asset transfers can trigger audits. - Should I change my business structure after divorce?
It depends. Some business owners restructure to simplify ownership or reduce risk post-divorce. Consult a tax professional. - Do I need both a lawyer and a CPA?
Yes. Divorce attorneys handle the legal side, but a CPA ensures tax compliance and planning. - How long do I have to adjust tax planning after divorce?
Ideally, before your first post-divorce tax return. But ongoing planning for the next 1–3 years is critical for business owners. - Can I deduct divorce legal fees?
Generally no, except for portions directly related to tax advice or business expense protection.
Conclusion
For small business owners, divorce in Texas is never just about dividing assets—it’s about understanding how taxes are impacted by divorce settlements today and in the future. Filing status, business income, capital gains, and retirement accounts all bring tax challenges that, if ignored, could cost you thousands.
The key is to plan ahead, seek professional guidance, and think long-term. With the right legal and financial strategy, you can protect both your business and your financial future.
📞 Need help navigating divorce and taxes in Texas? Contact the Law Office of Chris Schmiedeke today for a confidential consultation.