Significant Benefit: Did the Tax Money Pay for Your Lifestyle?

Every dollar of unpaid tax went somewhere. Maybe it went to a bigger house, a new truck, a family trip to Europe. Maybe it went into your spouse's separate account, a girlfriend's apartment, or a sports betting app. The IRS wants to know which, because a spouse who enjoyed the money is in a very different position from a spouse who never saw it.

That is the significant benefit factor. It shows up in classic innocent spouse relief under section 6015(b) and in equitable relief under section 6015(f). Here is how it works.

The definition: beyond normal support

Treasury Regulation 1.6015-2(d) says one relevant factor in deciding whether it is inequitable to hold you liable is whether you significantly benefited, directly or indirectly, from the understatement. It defines a significant benefit as any benefit in excess of normal support.

Revenue Procedure 2013-34, section 4.03(2)(e), uses the same definition for equitable relief and cites the same regulation.

"Normal support" is the key phrase. Food, housing, ordinary clothing, ordinary transportation, the usual costs of running a household: that is support. A spouse who lived an ordinary life while the other spouse underreported income did not significantly benefit just because the family ate dinner.

What counts as significant benefit

Revenue Procedure 2013-34 gives the IRS's own example: if you enjoyed the benefits of a lavish lifestyle, such as owning luxury assets and taking expensive vacations, this factor weighs against relief.

Treasury Regulation 1.6015-2(d) adds that evidence of benefit can consist of transfers of property or rights to property, including transfers received several years after the year of the understatement. Its example: if you receive property, including life insurance proceeds, from your spouse that is beyond normal support and traceable to items omitted from gross income that are attributable to your spouse, you are considered to have received a significant benefit from those items.

That last point matters for widows and widowers. If your late spouse underreported income and you later received assets traceable to that income, the IRS may treat that as a significant benefit, even if you never knew where the money came from.

Form 8857 asks about this directly. Line 18 asks whether you or your spouse incurred large expenses, such as trips, home improvements or private schooling, or made large purchases, such as automobiles, appliances or jewelry, for the years you want relief.

How the factor is weighed

Under Revenue Procedure 2013-34, the significant benefit factor can land in three places:

• Against relief. You significantly benefited from the unpaid tax or understatement.
• Neutral. The amount was small enough that neither spouse received a significant benefit. Or your spouse controlled the household and business finances, or there was abuse, such that your spouse made the decisions to spend the money on a lavish lifestyle.
• In favor of relief. Only your spouse significantly benefited and you had little or no benefit, or your spouse enjoyed the benefit to your detriment.

The revenue procedure also says that whether the amount is small enough that neither spouse benefited will vary depending on the facts of each case. There is no dollar threshold.

The control and abuse override

This is the most important rule in this factor, and most people never hear about it. Revenue Procedure 2013-34 says that if your spouse controlled the household and business finances, or there was abuse, such that your spouse made the decision on spending funds for a lavish lifestyle, the factor is mitigated so that it is neutral.

In plain English: if he bought the boat, you did not get a vote, and you rode in it anyway, the boat does not count against you the way it otherwise would. The guide to abuse and financial control covers how the IRS evaluates control.

Benefit "to your detriment"

The factor favors relief if your spouse enjoyed the benefit to your detriment. Think about what that looks like in real cases. Money diverted to support an affair. Gambling losses. A separate household. Assets hidden in the divorce. Debts run up in your name. When the unpaid tax financed something that hurt you, you are not just neutral on this factor. You are ahead.

Significant benefit in classic innocent spouse cases

Under section 6015(b), the fourth requirement is that it be inequitable to hold you liable. Treasury Regulation 1.6015-2(d) identifies significant benefit as one relevant factor and lists others that may be considered: whether you were deserted by your spouse, whether you are divorced or separated, and whether you received a benefit on the return from the understatement.

That last one is different from lifestyle benefit. It means a tax benefit on the return itself. If your spouse's bogus business loss offset your wages and cut the tax on your income, you benefited on the return. That concept also drives allocation under separation of liability. See the guide to section 6015(c).

Building the record

Significant benefit is a money-trail question. The IRS will look at what the household bought and how the spending compared to the reported income. Your former spouse will be asked too: Treasury Regulation 1.6015-6(b)(5) lists the extent to which the requesting spouse benefited from the erroneous items as information the nonrequesting spouse may submit.

Here is what I want to see:

1. Where the money went. Bank and brokerage statements showing whose accounts received the unreported income or the cash that should have gone to the IRS.
2. What the household lived like. A realistic picture of housing, vehicles and travel compared to prior years.
3. Who made spending decisions. Evidence of who controlled the accounts, who had cards and passwords, and who approved large purchases.
4. What you received in the divorce. The settlement may show you walked away with far less than your spouse, which tells its own story.
5. What happened after separation. If your spouse kept the assets bought with the money, document it.

A word about "normal support"

Requesting spouses sometimes worry that they will be penalized for any comfort at all. That is not the rule. The test is benefit in excess of normal support. Living in the family home, driving the family car, and having the kids' activities paid for are support. The IRS is looking for the extras that the unreported income or unpaid tax made possible.

On the other hand, do not overplay it. If the family took two international trips a year on income that could not support them, say so honestly and explain who decided and what you knew. Credibility on the bad facts makes the IRS more willing to believe you on the good ones.

How it fits the bigger picture

Significant benefit is one factor. Under Revenue Procedure 2013-34, no single factor decides the outcome. A spouse who benefited from a lavish lifestyle can still win if she had no reason to know of the problem, has a divorce decree assigning the debt to her former spouse, is compliant, and would suffer economic hardship. The guide to the section 6015(f) factors puts all of them together.

Common situations and how they tend to be viewed

A few patterns come up again and again.

The unreported side business that paid for a remodel. If the requesting spouse lived in the remodeled home and chose the finishes, expect the IRS to call that a significant benefit. If the nonrequesting spouse controlled the money and made the decision, the factor may be neutral.

The tax refund that never existed. Sometimes a spouse claims inflated deductions to generate a refund, then spends it. Whether the refund financed ordinary bills or a luxury purchase makes all the difference.

The money that left with the spouse. Unreported income deposited into an account the requesting spouse never saw, and kept by the nonrequesting spouse after the divorce, is the strongest version of this factor for the requesting spouse.