Community Property State

[rwm221]

Clients live in Arizona and want to file separate. I said that all income must be divided between the 2 of you. Husband has a business, and he was told by his accountant that sine he had the business before they were married that the income from the business does not count as community property. I thought that the business is not community property but the income from the business is community property. The wife has a rental house that she has before they married, and she was told the same thing that income from the rental does not count as community property since she had the house before they were married.

Would someone be able to shed some light on this.

Thank you

[Rapid Robert]

The accountant should butt out and not provide legal or tax advice if not preparing the tax return. Part of the confusion is treating "the business" as if the husband somehow isn't working there but is just sitting back and collecting checks.

In short, earned income, including what either spouse earns from providing services, is community income. Contrast that to investment income, such as from stocks, or passive real estate holdings, which is determined by the whether the underlying property is community or separate.

Pub 555 does a fine job of explaining this in layperson's terms and goes into detail about many types of property/income, and many situations with examples. One thing it does not discuss however is possible commingling of property in which separate property becomes converted to community property. If there are items that you still don't understand after researching in Pub 555, it might be time to consult an attorney.

The bigger question is why are they wanting to file separately, when it almost always results in the same or worse tax than filing MFJ, plus the hassle and expense of two returns instead of one. If they don't want to follow the rules, I would decline to engage with them.