New regulations will make alimony payments non-taxable income for those receiving alimony payments and non-tax-deductible for those making the payments beginning January 1, 2019.
Properly executed, unmodified agreements and orders executed prior to that date will retain the deductibility and taxability, respectively.
The Basics of Alimony
Alimony is the monetary exchange of support following a separation or divorce, which is based on need. Factors such as the age of the parties, the length of the marriage, earnings of each party, and at times marital fault, are considered.
Alimony is paid by the person determined to be the supporting spouse (payor) and is received by the person determined to be the dependent spouse (recipient). Both parties and their representation often negotiate the amount and duration of alimony payments; although, it can be court-ordered in the case of the parties not reaching an agreement.
The Tax Cuts and Jobs Act
For years alimony payments were deductible for the payor spouse and taxable to the recipient spouse. However, the Tax Cuts and Jobs Act (TCJA), signed into law in December 2017, will repeal the alimony deduction — a statute that has been in the tax code since 1942. The argument is that policies should treat alimony like child support, which is already not tax-deductible for the payor nor taxable to the recipient.
Section 11051 of TCJA states, “this section repeals the deduction for alimony or separate maintenance payments from the payor spouse and the corresponding inclusion of the payments in the gross income of the recipient spouse.” The changes in the tax laws apply to:
- Any divorce or separation instrument executed after December 31, 2018,
- Any divorce or separation instrument executed on or prior to December 31, 2018, and modified thereafter if the modification explicitly provides that the repeal of the deduction for alimony from the payor spouse applies, as well as the corresponding repeal of inclusion of payments as income to the recipient applies,
- AND MAY APPLY to modifications to existing agreements that do not refer to the repeal. There is uncertainty here and many await guidance from the IRS.
Effects and Concerns
Currently, if the payor spouse has a gross income of $100,000, and $20,000 of that sum is paid in alimony to the recipient spouse, then he or she would have a taxable income of only $80,000. All the while, the recipient would then have to declare the $20,000 as taxable income in conjunction with their earnings. After the repeal, the payor will be taxed for the full $100,000, and the recipient will no longer have to pay taxes on the alimony.
The repeal may hurt both parties by pushing the alimony payor into a higher tax bracket who, in turn, may reduce the amount offered because of the lack of deductibility. This may reduce the bargaining power of recipient spouses who are typically in a lower tax bracket. Quite often the benefits of deduction resulted in more overall money between the parties for the division.
It remains to be seen if District Court judges will be inclined to grant less in alimony because the tax law change affects the spouse’s ability to pay. The end result is that less alimony is likely to be offered due to the loss of the tax deduction. Litigation of alimony cases is likely to rise.
What to Do
If you wish to maintain deductibility and can finalize your divorce and alimony claims in 2018 by separation agreement or court order you should do so. Be careful about any modifications in 2019 to any existing orders or agreements executed before December 31, 2018 for alimony as you may very likely change how both payor and recipient are taxed.
If you have questions as to how this new law affects you, call the lawyers at Perry, Bundy, Plyler and Long LLP. You can speak to one of our divorce attorneys at 704-289-2519.