What Is the Tax Treatment of Stock Grants in Divorce?

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Stock grants that are earned during a marriage are subject to equitable distribution in divorce. As discussed in our prior post on How Are Stock Grants Treated in Divorce?, stock grants are a common method of compensation for executives and are considered a marital asset when earned before a divorce action is filed. However, a significant issue in dividing stock grants is taxation. The rules are complicated and must be carefully negotiated in divorce to ensure the value of the stock is split fairly.

How Are Stock Grants Paid?

An executive’s employment agreement will specify whether he or she is entitled to a specific number of shares every year (ex. 100 shares of stock) or stock worth a certain amount (ex. $1 million of stock). This is important because the former option is affected by fluctuations in the value of the stock. 

If the recipient-spouse is receiving 100 shares a year and the value of the stock goes up during the vesting period, those shares will be worth more money when sold but also generate more tax liability. However, if the recipient is getting $1 million in stock, then it doesn’t matter whether the stock price goes up or down because the total value remains the same. 

How Does the IRS Tax Stock Grants?

Taxes are paid on the value of the shares on the date they were awarded to the recipient. Typically, when the recipient-spouse receives the stock grant, he or she will withhold taxes. The recipient must make sure to withhold an appropriate amount before the stock is split in divorce. Failing to do this can result in a significant problem because the IRS could send a tax bill after the divorce demanding additional payment. If the stock has since gone down in value, the recipient-spouse may not have the funds to pay the taxes owed. This situation occurred in a recent client matter in our firm.

In the case, one spouse received 1000 shares of stock which at the time was valued at $50/share. That spouse withheld 35% for taxes. However, when taxes for the year were calculated, that spouse still owed money to the IRS. Unfortunately, the stock value went down in the interim and the spouse had to come up with additional money to pay the taxes and wanted the other spouse (our client) to pay half of the tax shortfall. 

If the stock had gone up in value, then this wouldn’t have been a problem because the spouse receiving the stock could use the appreciation of the stock to pay the tax bill. This is a good example of why it is important to speak to a tax professional to determine how much to withhold if you receive stock grants. You also need to discuss the matter with your attorney to address the issue in your divorce settlement agreement. Suing your spouse after the fact to try to get them to pay a portion of the taxes means spending more time on litigation and creating another source of financial bleeding.

Stock grants can be very valuable and must be handled with care in divorce. If you are considering divorce, contact us to learn how we can help protect your interests and achieve the best result in your case.

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