Alimony and Taxes
Alimony is the financial support that one spouse can be ordered to provide to another spouse after divorce or separation. Alimony does not include child support, which may also be given upon separation from one spouse to another. Federal and state law allow alimony to be deducted by the paying spouse and is reportable as income by the recipient, if certain criteria are met. Please note, however, under the new tax code, payments made in accordance with agreements or orders executed after December 31, 2018 will not be deductible, nor will alimony recipients need to report the payments in their taxable incomes. However, up until that moment, the following factors will still apply in order to be considered ‘alimony’ and eligible for a deduction under IRS rules:
- The parties cannot file their tax return jointly with each other. Only if you file separate tax returns will the IRS consider any payments as alimony.
- You must make payments in cash. This does not contemplate actual dollar bills necessarily, and can include checks, money orders or bank deposits. The point is that you cannot exchange property as alimony if you want to qualify for federal tax deductions. For example, if your spouse agrees to accept some jewelry that month instead of a formal cash payment, you will not be able to deduct that month you’re your annual tax return.
- Your former spouse must receive the payment, or the payment must be received on behalf of them. So, you cannot pay their friends or relatives if you want to be eligible for any tax deductions.
- The divorce decree, final order, or written separation agreement must specifically state that any money exchanged must be considered alimony. The IRS is clear that before a payment can be characterized as alimony, it must be labelled as such in the separation document, and must meet the definition of alimony under the IRS rules.
- In the event of a legal separation, or divorce from bed and board in New Jersey, then the parties must be members of a different household at the time any alimony payments are made. This requires an element of physical separation before you will be eligible for any deductions under the IRS.
- There must be an end of payment upon the death of your spouse. This language must be included in the settlement agreement or divorce judgment. Upon the receipient’s death, any obligation to continue making alimony payments cease immediately.
- The payment must be clearly alimony, and cannot be treated as a form of property settlement or child support. Child support payments are treated very differently than alimony payments for tax purposes, so be sure that the payments you are treating as alimony are not tied to any type of child support. Similarly, the division of marital property is not tax deductible, so those payments must be kept separate as well.
In general, the spouse who is ordered to pay alimony will deduct the payments on his or her tax return. This in turn will be balanced by the recipient of the money, who can then report the payments they receive as taxable income.
When alimony is awarded to a spouse, it is usually because that spouse has less income than the other spouse. Alimony is often designed to ensure that the spouse earning less money is able to still make ends meet and maintain a reasonably similar standard of living the parties were able to establish during the marriage. For tax purposes, a person with a higher income benefits from being able to make tax deductions because it reduces the amount of taxes that they owe. If alimony payments are tax deductible, the paying spouse will lower his or her tax bill. On the other hand, the recipient of the alimony typically has a lower income and the addition of the alimony payments does not increase the taxes owed significantly, although the taxes due will usually increase. In this way, the IRS has been able to balance the competing interests of divorcing spouses with significant income disparity.
Given the controversial changes to the tax code beginning 2019, the party who will be obligated to pay alimony might consider wrapping up their divorce case prior to the end of 2018. Of course, recipient spouses now appear to have a significant incentive in dragging out the case until the divorce can be finalized after January 1, 2019. Unfortunately, this particular change has made the business of divorce potentially more acrimonious.
Since the tax implications of a divorce are unique to each person, you should speak with the Law Offices of Peter Van Aulen. Call 201-845-7400 for a consultation.Sources
IRS Publication 17 – Alimony
IRS Topic 452 – Alimony Paid