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FS-Finding Income After the Divorce
Jan L. Warner & Jan Collins

Question: My wife and I have a lawyer and are trying to negotiate our divorce settlement. We have no children that are minors. Under what we are planning, she will receive our home (which is paid for and now worth about 60% of what it was worth three years ago), the contents (which are not very valuable), and 40 percent of the value of my 401(k), which after recent "market gyrations" is roughly $100,000. She is also to keep her 401(k) (now $64,000) and her pension (not yet valued).

Although we are both employed, she claims she earns $750 less (monthly) than what she needs to support herself, and when she retires in about five years -- after considering her retirement, withdrawals from my 401(k) and her 401(k), and Social Security, she says will need about $10,000 more per year.

Since I plan on retiring in four years (assuming I don't get canned), I do not want to have the obligation of paying her alimony that will reduce my own income. In addition to the assets we acquired during our marriage, I own nearly $300,000 worth of stock (after the market disaster, down from $1,000,000) that was given to me by my parents 30 years ago. My parents paid about $10,000 for this stock, which will now pay me about $6,000 each year in dividends. It is my intention to leave this stock to our children, and I don't want to sell it. Our lawyers can't figure out how to get my wife the money she needs without cutting into my current and retirement incomes. Can you think of any other ways in which to resolve our dilemma?

Answer: "Wants" and "needs" are two different things. It seems to us that you are giving up quite a bit, and relying on keeping your job, not losing any more money, and living off a gift from your parents.

A risk of paying traditional alimony is that, depending on the wording of your agreement, your obligation could be subject to increase if your wife's conditions change. Although we understand your desire to pass the stock your parents gave you to your children when you die, we don't think this is a good economic decision because you will probably need it to live on, especially after retirement. By using part of this low-basis stock in a creative fashion, there is a way to deliver income to your wife without reducing your retirement income, and without subjecting yourself to the risks of continuing alimony. If you decide to overpay your wife, we recommend that you and your advisors use a charitable remainder annuity trust -- sometimes called an "income maximization trust" -- that is assuming you have enough money to do so.

If you decide to sell any of your stock, you will pay a federal capital gains tax which is currently calculated by multiplying the difference between the sales price ($300,000) and your cost basis ($10,000) by 15 percent or about $45,000. In addition, if your state of residence has a capital gains tax; you can bank on paying additional thousands.

On the other hand, based on our very rough calculations, if you contribute $150,000 of this stock into a charitable remainder annuity trust (CRAT) and make your wife the beneficiary before you divorce, she could potentially draw $10,000 per year from the trust for the rest of her life. You will then receive a charitable deduction which you will be able to use for up to the next five years to offset your income taxes, and you will pay no capital gains taxes. Since the charitable remainder trust is tax-exempt, it pays no income taxes, but your wife will be taxed on the income distributed to her as the beneficiary. At your wife's death, the funds remaining in the trust will pass to one or more charitable organizations that you have chosen.

You might choose to use a similar trust when you retire in order to generate additional income for yourself and to put this asset to work. Then, instead of transferring the stock to your children at your death, you could use the additional income to purchase an equal amount of life insurance that could be delivered to your children free of income tax.

Divorce settlements often require innovative techniques often used in estate planning, such as the charitable remainder trust, in order to help resolve difficult economic situations.

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Suggested Reading:
Separation and Divorce Guidebook
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FS-Be Wary of Credit Issues with Ex
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FS-Becareful of Bargaining Away Alimony As Child Support
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FS-Lawyer Tells Me to Lie & Pension Double Dipped
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FS-On and Off Again Reconciles Can Create Agreement Disasters
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FS-The Dangers of Family Loans
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FS-Transference of Affection & 10 Tips of Divorce
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