Originally published by The Law Office of Bryan Fagan, PLLC Blog.
This is a question that many people had been asking the attorneys with the Law Office of Bryan Fagan. Namely, whether or not alimony payments would be tax deductible in 2019 and beyond. The Tax Cuts and Jobs Act that was signed into law in December 2017 changed a number of things regarding the tax laws in our country, and one of those areas that saw some changes occur relate to payments of alimony. The most significant of those changes for our purposes is that moving forward for tax year 2019 alimony payments are no longer tax deductible. By that same token, the spouse who receives those alimony payments no longer has to report them as income.
Are there exceptions to this rule?
Like with most things in the law, there are some exceptions to this rule. If your divorce agreement was finalized in 2018 or earlier. However, if your divorce has been finalized after January 1, 2019 then the rules that we discussed in the paragraph prior to this would begin to apply. Essentially, if your divorce was finalized on December 31, 2018 or earlier you would be grandfathered in to being able to maintain the same tax structure as divorces that were finalized in 2015, 2010, 1995 or any year prior to the recent changes that have occurred.
For those folks, there would be no change to how your taxes are handled moving forward despite the change in the tax code. The alimony that is received by you or your spouse would still be taxable and deductible whichever one of you paid the alimony. Same as it ever was.
How do you report alimony that you have already received?
In the event that you have a finalized divorce from prior to 2019 you would report the income from alimony the same way that you have in years past. The full amount of any alimony that you have received should be noted on your 1040. In Texas we have a couple of different types of “alimony.” There is spousal maintenance which is ordered by a judge as a result of a trial and there is contractual alimony that is negotiated and settled upon between you and your divorce in mediation or informal settlement negotiations. Keep in mind that temporary spousal support that you receive during the course of our marriage is not impacted one way or the other.
Child support is related to spousal maintenance and contractual alimony in that it is a payment that is made from you to your spouse or vice versa after the conclusion of your divorce. Unlike the two different forms of alimony that we just finished discussing, child support does not figure into your taxes- either as the payor or payee of the support. You would not report it on your tax return and you cannot claim it as a deduction if you are the noncustodial parent who has the responsibility to pay the child support.
How do you report alimony that you have paid prior to 2019?
Assuming that yours is a divorce that occurred prior to 2019, then you would deduct the payments of alimony made in those years just the same on your taxes moving forward. Paying alimony or spousal maintenance to your ex-spouse mean that would report that amount on your 1040 along with your ex-spouse’s Social Security number. This alerts the IRS to the fact that it was your ex-spouse who received the money. That way the IRS can cross reference your ex-spouse’s tax return to make sure it is being claimed as income on theirs.
What are the requirements for deducting alimony payments?
If you are the spouse who paying alimony to your ex-spouse, you need to be aware of the rules and regulations associated with deducting these amounts on your taxes. The first one may seem obvious now that you are divorced but it bears mentioning nevertheless- you cannot file a joint tax return with your ex-spouse. It is obvious that this is the case if you are divorced. Even if you are still married you cannot file a joint tax return. The alimony must be paid via check or money order, as well. If your agreement has you paying your ex-spouse in stock, real property or personal property then those amounts are not deductible. This is otherwise known as a property settlement and is not deductible under IRS code.
Do the changing laws on alimony and taxes impact your retirement savings?
Your retirement savings accounts could also be impacted by the changes in the laws regarding alimony. In the event that you are making your payments we have already discussed how important it is that those payments are made in cash or check. For any divorce decree that was made subsequent to December 31, 2018 you can transfer money from your retirement funds to pay alimony or spousal maintenance. In some ways this allows you to side step the new rules on not being able to deduct these payments on your tax return if you are the spouse responsible for making those payments.
For example, if you are making payments for the spousal maintenance or contractual alimony through your Individual Retirement Account (IRA) then you are giving your ex-spouse money that you would have to pay a tax on when you withdraw it (assuming that the IRA is a traditional and non-Roth IRA). Once your ex-spouse receives those payments he or she will have to pay a tax on that money.
When you do so, you are essentially instituting the same kind of structure that had been in place previously as it pertains to paying taxes. Keep in mind that if you are not 59.5 years old you will also have to pay a penalty on withdrawing funds from the IRA which may make this an arrangement that is not desirable for you. Furthermore, if you were interested in pursuing a one time transfer from an IRA for payments you would need to specify this arrangement within the final decree of divorce.
Whether or not it would be to your advantage to receive monthly spousal maintenance payments as well as a one time award through an IRA at the time of your divorce depends on your individual circumstances. In situations like that, you should get in touch with a financial planner so that you can sort through those various issues to determine that is best for you. It may not make sense for you to receive funds this way or for your ex-spouse to pay you this way, either.
Impacts of the new alimony rules on how you save for retirement
If you are to receive spousal maintenance or contractual alimony payments from your ex-spouse as a result of your divorce then you need to be aware of how the new tax laws can impact the way that you are able to save for retirement.
Since the money from your ex-spouse is no longer considered to be earned income that is taxable, you can’t invest that money into an IRA. If you are not working and only receiving spousal maintenance or contractual alimony for income this can seriously impact the avenues you can pursue towards saving for retirement. There are other types of retirement accounts that you can save through, but an IRA is a tried and true method for those of us who earn an income we would like to invest part of.
Why could the changes in the law discourage you if you are the spouse who pays maintenance?
There are always unintended consequences whenever a change occurs in the law or anywhere else in life. The thought beyond the changes in the law were done in order to save more money for the ex-spouses who participate in these type of arrangements. On the other hand, it could be argued that divorces are getting more complicated as a result of the change in the tax laws on alimony and spousal maintenance.
This breaks down to how if you are the ex-spouse who is responsible for making the alimony payments, you will figure out that you cannot deduct those amounts from your taxes if your divorce was finalized on January 1, 2019 or later. Your ex-spouse will likewise find that he or she does not have the report those payments as income. What looks like it could be a good thing for your ex-spouse does not ultimately prove itself to be.
The reason why this arrangement is not necessarily a good thing for your ex-spouse is due to the total amount of money that is available to you and your spouse has gotten smaller as a result of the tax change. A reduced level of support will impact your ex-spouse as well as your children if you have any. This is in addition to the issue we just finished discussing with you about how your ex-spouse is now unable to contribute to an IRA with the alimony payments. While your ex-spouse may be provided for in the immediate future, their long term future can be murkier now.
With the change in the tax treatment of alimony payments, more cases, I anticipate, will end up going to trial versus settling if the main issue is alimony and spousal maintenance. The reason that I believe this is that with so much pressure on people like you to be able to come up with a settlement that is advantageous from a financial perspective, the tax law will not help in doing that. As a result, there will be less of a reason to settle in mediation and more of a reason to attempt to get a better outcome from the judge.
With alimony and spousal maintenance up in the air, child support could be impacted as well. Consider how many spouses going through divorce will negotiate child support and spousal maintenance as tandem issues. For example, if you all know ahead of time that you will be paying your ex-spouse $3000 per month in spousal maintenance payments, you may have a better idea of how much in child support will be needed to fill in any remaining “gaps” in income. However, the changes in the tax laws can create complications in arriving at exact figures that are needed for your family.
Final thoughts on the tax changes to alimony and spousal maintenance payments
It goes without saying at this point in our blog post, but if you were involved in divorce proceedings towards the end of 2018 it would have behooved you to finish your divorce by December 31, 2018. There are some benefits to being able to have a divorce decree dated in 2019 and beyond if you are the spouse who is set to receive spousal maintenance or alimony payments. However, in some areas (retirement savings, for example) the benefit may not exist at all.
Having a family law attorney is important when it comes to negotiating a divorce settlement that can be to your advantage from a financial perspective. Additionally, if you can speak to a financial planner that would be a good thing, as well. Having someone in your corner to guide you from a legal and financial perspective can be the best of both worlds. When taxes get involved it is a benefit to be able to rely on someone who is an expert in that area, as well.
Questions about divorce in Texas? Contact the Law Office of Bryan Fagan
If you have any questions about the material that we presented in today’s blog post please do not hesitate to contact the Law Office of Bryan Fagan. Our licensed family law attorneys offer free of charge consultations six days a week here in our office. These consultations can be a great opportunity for you to ask questions and receive specific feedback about your circumstances. Thank you for joining us today on our blog and we hope to see you again tomorrow as we post more unique content for you to read through.
Curated by Texas Bar Today. Follow us on Twitter @texasbartoday.
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