UPDATED: Alimony Affected By Proposed Tax Reform Legislation

The Senate/House Conference Report is out, and the alimony provision has some change – delaying the phase out of the deduction for one year.  If the tax bill becomes law, the alimony deduction repeal would affect divorces entered after December 31, 2018.

Under current law, alimony payments are deductible by the payer and taxed as ordinary income to the recipient.  According to a CNN report, about 600,000 Americans claimed an alimony deduction on their tax returns in 2015.  Eliminating the deduction may have some spillover into asset division and may make settlements harder to reach in those cases where the loss of the deduction would impact life style.  In high income cases, the impact will be less severe.

 

Originally posted on November 6, 2017

The proposed Tax Cuts and Jobs Act (“Act”) released on November 2, 2017 contains several provisions that could impact divorce cases, most significantly in the alimony area.  At present, a spouse receiving alimony must report it as income and a spouse paying alimony may claim a tax deduction.  The Act would change the tax treatment of alimony such that, while alimony would continue to be paid from after-tax dollars, there would be no tax deduction for the paying party and the recipient would no longer be required to claim alimony payments as income.  The change would likely increase the total amount of tax paid by a divorced couple since the ex-spouse with the higher income and tax bracket is the one paying alimony.  It would also eliminate the relief that the current tax deduction provides for the party paying alimony.

The current tax deductibility of alimony is a significant factor for the alimony-paying party.  The elimination of the deduction for the alimony-paying party under the Act would be compounded by the fact that the tax code contains a higher tax-bracket threshold for married couples who file jointly compared to the less advantageous brackets for single filers.  Thus, the party who is paying alimony and who no longer has the benefit of the favorable “married filing joint” tax filing status also loses the ability to deduct the alimony payments. In most cases, the deductibility of alimony is a significant financial factor in negotiating alimony settlements, without which cases may be more difficult to resolve.  On the other hand, under the Act, the recipient party is not required to claim alimony payments as income, thus there will be reduced concern about the need to “gross up” alimony payments for tax purposes.

The current alimony tax rules typically reduce a divorced couple’s overall tax burden whereas the Act would increase it.  Some divorcing couples may view this as a divorce penalty which will likely influence the way that financial settlements are reached and may also impact the way that courts decide issues of alimony and property settlement.

About the Author: Judith A. Fairclough

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