Under current IRS law, spousal maintenance and alimony are deductible by the paying party and must be reported as income by the receiving party. This arrangement is advantageous to couples going through a divorce and planning to include spousal maintenance or alimony in their property settlement because the higher earning spouse is paying taxes at a higher rate than the receiving spouse. The higher earning spouse may deduct the spousal maintenance or alimony payments on form 1040 at a high tax rate while the lower income spouse, who received the payments, reports the income and pays tax on the spousal maintenance or alimony at a lower tax rate. This IRS rule allowed a divorcing couple to share the cost of spousal maintenance or alimony with the federal government.
However, under the new tax plan passed in late 2017, spousal maintenance or alimony payments will no longer be deductible by the payer and not need be reported to the IRS as income by the receiving spouse after January, 2019. Thus, the date when your clients finalize their divorce will have a significant impact on the cost of spousal support or alimony under the new tax plan. If your client is the higher earning spouse in a divorce and the divorce settlement involves alimony or spousal maintenance, you should advise your client to finalize his or her Divorce Decree and Agreement Incident to divorce before December 31, 2018 if your client wants to deduct spousal maintenance or alimony payments from his or her reported income. Under the old tax law, because the spouse receiving alimony or spousal maintenance is usually in a lower tax bracket after a divorce, more money stays with the divorcing couple rather than going to the Federal Government.
Starting in 2019, spousal maintenance or alimony deduction will no longer be tax deductible. Under the new tax law, the higher earning spouse will be required to pay all of the tax on the funds used to pay spousal maintenance or alimony and the recipient will get the payments tax-free. If one of your clients expects to receive spousal maintenance or alimony as part of a divorce settlement or court order, you may want to delay finalizing that client’s divorce until the beginning of 2019 so he or she won’t have to pay tax on the alimony or spousal maintenance payments. However, the interactions between divorce settlements or orders and the tax code are complicated. It’s likely couples will negotiate a settlement that takes into account the loss of the spousal maintenance or alimony deduction after December 31, 2018. When negotiating a divorce settlement in 2019 or later, the new tax rule on alimony and spousal maintenance can be factored into the settlement by reducing the amount of alimony or spousal maintenance the paying spouse must send to compensate for the loss of the prior tax deduction. Thus, under the new tax rules, less alimony would likely be paid to correct for the loss of the tax deduction by the higher earning spouse. However, because more taxes must be paid to the Federal Government, the couple will end up with less assets to divide. This is a significant development in family law, because during 2015, approximately 600,000 couples used the alimony deduction on their federal tax returns.
Under current tax law, alimony or spousal maintenance is deductible by the person paying, while the recipient must report the payments as income on his or her tax return. Starting in 2019, the payor gets no deduction for spousal maintenance or alimony payments and the recipient need not include the payments as income on his or her tax return. However, the interactions of tax and divorce law are complex and spouses paying alimony or spousal maintenance will most likely negotiate lower payments to compensate for the loss of the tax deduction.