Navigating the complexities of a divorce can be very challenging, if not downright painful. There are many pressing and personal issues that demand your attention. Given all of that, it is understandable that tax considerations are typically not at the top of a person’s list of priorities during these strenuous times. However, it is still important to make sure everything is in order to avoid surprises when tax time comes. Mistakes or misunderstandings can prove to be very costly.
From a tax perspective, alimony (also called “spousal support”), is a very important concept in divorce proceedings. The person who pays the alimony may deduct these payments on their tax return, and the person receiving the alimony must recognize it as income.
To qualify for this treatment, the payments must be made under a written divorce or separation instrument. In addition, there are seven requirements provided by the Internal Revenue Code that must be met in order for a payment to qualify as alimony.
- The payment must be in cash or cash equivalents;
- The payment must be made to (or on behalf of) a spouse or former spouse;
- The payer’s obligation to make payments must be relieved upon the recipient’s death;
- The payer and the payee must not file a joint return with each other;
- For payments made after the divorce or legal separation is final (the couple is no longer married for tax purposes), the payer and payee cannot be members of the same household at the time payments are made;
- The divorce or separation instrument must not state that the payment is not alimony for tax purposes;
- The payment cannot be explicit or disguised child support.
It is easy to fall afoul of these requirements. Times when payments are made before a separation agreement is finalized, or where someone pays the mortgage for an ex-spouse but the payer is still listed on the mortgage, or where the amount of the payments decreases once children reach 18 years of age, are all instances where an alimony deduction could be sharply limited or even disallowed altogether. This can result in a much larger tax bill than expected.
Separation agreements can be very complicated documents. These agreements are often drafted by very competent legal professionals who do have some awareness of the tax ramifications. Unfortunately, our tax professionals have seen many instances where an agreement has violated a nuanced aspect of the Internal Revenue Code, leaving some unable to deduct large payments that they thought were going to be deductible.
If you are going through a divorce, please consider having an experienced tax professional review your alimony and support provisions to ensure you will receive the tax treatment you are expecting. A member of the Barnes Dennig tax team is available to help. Ask us a quick question here, and we’ll have someone reach out to you.