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How Does the New Tax Law Impact Alimony Payments?
Under the newly enacted Tax Cuts and Jobs Act (TCJA), the rule applicable to alimony payments has been flipped on its head. Alimony is the payments that someone gives to an ex-spouse who earns less money. Alimony payments, which are typically memorialized in the terms of a divorce settlement, are different from child support.
Historically, ex-spouses who pay alimony have been able to deduct the expense from their federal income taxes, while recipients of alimony payments were required to claim the money as taxable income. So, for instance, if a high-income spouse (subject to a high tax bracket) paid alimony to a low-income spouse (subject to a lower tax bracket), the high-income spouse could deduct this amount from his/her income. As a result, the difference in tax brackets results in the payor receiving a valuable deduction, and the recipient paying tax at a lower bracket. This arbitrage has served to benefit both parties when negotiating a divorce settlement.
But all this has now changed. Under the TCJA, alimony payments are no longer tax-deductible to the payor and are not taxed as income to the recipient. This rule will affect all divorce and separation agreements signed after December 31, 2018. The TCJA, however, does not affect existing divorces and also permits those who modify the terms of a pre-existing divorce agreement to choose whether the new or old rule should apply.
While alimony recipients may view this change as a victory, that is not necessarily the case. Payors of alimony will be less amenable to higher support settlements due to the loss of this valuable deduction. And even though recipients won’t be taxed, the benefit of not being taxed may not completely offset the amount a payor would have been willing to pay had they received a tax deduction. Thus, alimony recipients may walk away with less in their pocket.
This change will inevitably impact matrimonial settlement negotiations. So if you have not yet finalized your divorce, divorcing couples should try to settle before December 31, 2018 when the new alimony rules come into effect.
We recommend that you consult with your attorney to help you decide what choices are right for your specific situation.
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