A Small Step toward Tax Equality for Same-Sex Couples

A trio of recent IRS rulings (here, here, and here) has rekindled debate on how our tax system should treat same-sex couples.

Under the Defense of Marriage Act, the federal government does not recognize same-sex marriages. As one consequence, same-sex couples must file individual tax returns even if they are married or registered as domestic partners under state law.

The new rulings were prompted by a 2007 California law that requires registered domestic partners to treat their earnings and some investment returns as common property for state tax purposes. Under this approach, the partners share equally in their combined income, regardless of which partner earned it. If one partner earned $50,000 and the other nothing, for example, they would each be viewed as having $25,000 of income.

Because “federal tax law generally respects state property law characterizations and definitions,” the IRS decided to apply that approach to federal taxes. As a result, domestic partners in California (most of whom are same-sex couples) will each report half their combined income from earnings or community property on their individual federal tax returns.

That approach will lower the tax burden for many eligible same-sex couples. For example, if one partner earns $50,000 per year and the other has no earnings, the couple’s combined federal tax bill would fall from about $6,000 to $3,000 (assuming they have no children). That decline is identical to the “marriage bonus” that the federal tax code currently provides to heterosexual married couples at that income level.

For that reason, some commentators have characterized the rulings as tax equality for same-sex couples (e.g., the Wall Street Journal ran the headline “Gay Couples Get Equal Tax Treatment”). But that interpretation exaggerates the impact of the rulings and understates the differences in taxation between same-sex and heterosexual couples.

First, the rulings apply only in states with these community property rules for same-sex partners. According to the WSJ, besides California, only Nevada and Washington might currently be affected.

Second, same-sex partners still can’t file joint returns. As a result, their tax burdens can differ from those of otherwise identical heterosexual couples. For example, one domestic partner might have investment income from assets that are not community property and thus are not shared with the other partner. Depending on their income, that can result in the same-sex couple paying more or less than a heterosexual couple.

Dividing income under the community property approach may also allow same-sex couples with high incomes to pay less in federal taxes than heterosexual couples. For example, a same-sex couple that earns $300,000 would pay about $66,000 in tax under the new ruling, while a heterosexual married couple would pay about $78,000.

Finally, the rulings don’t address a host of other ways in which same-sex couples face less-favorable tax treatment. At a recent TPC event, for example, Michael Steinberger of Pomona College noted that same-sex couples can face significantly higher estate taxes because they aren’t eligible for tax-free bequests to spouses.

For all these reasons, same-sex couples and heterosexual couples still aren’t treated the same under the tax code. The recent IRS rulings narrow the gap in some cases, but create new gaps in others. Given the complexities of our tax code, separate treatment will inevitably mean that some same-sex couples will pay more or less in taxes than comparable heterosexual couples do. If policymakers ever want same-sex couples to be taxed the same as heterosexual couples, the only practical way to do so would be to allow same-sex couples to file their tax returns as married couples.

This post first appeared on TaxVox, the blog of the Urban-Brookings Tax Policy Center.

4 thoughts on “A Small Step toward Tax Equality for Same-Sex Couples”

  1. “If policymakers ever want same-sex couples to be taxed the same as heterosexual couples, the only practical way to do so would be to allow same-sex couples to file their tax returns as married couples.”

    Absolutely, it’s the only sensible solution. And the government should also stop recognizing ‘marriage’ contracts based solely on religious ceremonies. All couples should be required to file the same legal documents in the jurisdiction which they ‘join’ together as a couple.

  2. The IRS ruling is wrong.
    I couldn’t disagree more with the premise of your article. 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.

  3. My wife earns no income herself, so on the phase this ruling should save us about $5k a year in federal taxes. However, if the federal government recognizes community property, I wonder how this affects Social Security/Medicare taxes?

    Would she now be responsible for paying social security taxes for her half of our community property? If so, I imagine she would now be eligble for social security payments in the future (currently she is not having never paid into the system).

    I guess I should get a refund of the excess I paid? Since I earn more than the maximum taxable for social security, I guess in the end we would be end up paying more on this side of the equation? Would the basis for social security payments be half of what it used to be before the ruling?

    Anyone have any ideas on this?

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