On December 22, 2017, the President signed the most sweeping changes to the United States tax code in the last 30 years. Congress passed the historic tax reform legislation, which will undoubtedly change the way most Americans calculate their taxes.
One of the most critical and yet overlooked changes in the Tax Cuts and Jobs Act is the elimination of the tax deduction for alimony payments (called spousal support in California).
The elimination of the deduction, which has been in the tax code for 75 years, will have major implications for divorcing couples.
As a result of the change, the total amount couples who are splitting up have to live on after they get divorced will be much lower. It could also make your divorce a more drawn-out and complicated process.
Divorce can be the most financially difficult period in your life. For even a short period, two households will need to survive on one income, one income that was previously being used to pay for only one household.
The loss of the tax deduction will have major implications if you are contemplating divorce or if you are currently in a divorce case.
This post will examine the impact of the new tax law on alimony.
What is spousal support?
In many divorce cases, when a couple splits up, the court may order one of the spouses to pay the other a certain amount of financial support each month. In California, the payments are called spousal support (the payments are called alimony in some parts of the country).
In short, spousal support is the amount that a higher earning spouse will pay to a lower or not working spouse while their divorce case is winding its way through the courts and may continue after they have been divorced. Usually, spousal support will be paid when there is a significant difference in the earnings of the two spouses, and they have been married for more than a few years.
Purpose of the tax deduction for spousal support
Under the previous tax law, the spouse who pays alimony can take a deduction on their taxes for the amount that they pay. In turn, the spouse who receives the support will include the amount received in their taxable income—thus paying taxes on the alimony received.
So, alimony payments are tax-free for the payer, and they are taxed—like regular income—for the recipient.
Because the recipient makes less money and is in a lower tax bracket, the family unit will pay less in taxes. Therefore, there will be more money for the entire family unit.
So under current law, there tends to be more money overall to split between spouses, which allows them to afford to live separately.
What the tax deduction for alimony does
The basic idea is that the total amount that the couple will have available for alimony is higher by giving the deduction to the taxpayer in the higher bracket and paying taxes on the income at a lower bracket.
For example, suppose one spouse is paying $3,000 in monthly spousal support and is in the 33% tax bracket. Under the old law, the deduction reduces those payments to $2,000.
The receiving spouse, who is in the 15% tax bracket, receives the $3,000 spousal support payment and must pay $450 in taxes on the payment. The receiving spouse is left with $2,550.
While it may sound like a good idea for recipients of alimony to not have to pay taxes on the amount that they receive in spousal support, the amount that they receive is actually more than you would receive without the tax deduction handed over to the payer.
New tax law for alimony
Under the new tax law just signed by the President, in any divorce finalized after December 31, 2018, you will not be able to take a deduction for the spousal support you pay to your ex-spouse.
Nor will the recipient-spouse include the amount they receive on their tax return.
Loss of tax deduction for alimony payments
In the most recent year that data is available, the IRS claims that almost 600,000 taxpayers claimed the alimony deduction on their tax return. The total tax savings generated was more than $12.3 billion.
Current alimony agreements not impacted
The new rule will not affect anyone already paying alimony. You will be grandfathered-in under the old law and allowed to continue to take the deduction.
But modifications of current alimony payments may be impacted. You can choose to “opt-in” to the new law and not take the deduction on your tax return.
Why the change?
The Committee in Congress that was responsible for writing the legislation called the alimony deduction a “divorce subsidy.”
“A divorcing couple can often achieve a better tax result for payments between them than a married couple can,” the House Ways and Means stated in November.
Also, the Committee felt that spousal support should be treated the same way as child support—which is not deductible from your taxes.
Opponents of the change
Before its enactment, several major organizations opposed the bill, they were concerned about the law’s implications.
The national organization of family law attorneys, the American Academy of Matrimonial Lawyers, opposed the elimination of the deduction.
“Alimony is an essential tool that has enabled countless spouses to adjust to a dramatically altered economic reality,” Madeleine Marzano – Lesnevich, President of the Academy, said in a statement. “The financial security provided to families by spousal support is a valuable resource that needs to be further strengthened and not diminished by our representatives.”
Also opposed was the National Organization for Women, which said in a statement that the tax change could make it more difficult for divorcées to get the support they need because their ex-husbands would have less money without the deduction. “It’s something that’s really important to women. We are really concerned because it would make tough, tense negotiations between couples even worse.”
Lower payments to recipients of alimony
Without the deduction, it’s virtually guaranteed that higher earning spouses won’t pay as much to their spouses in the divorce. After the initiation of the new law, higher-earning spouses will have more leverage to argue that they should pay lower alimony or spousal support.
The family’s tax burden will undoubtedly be increased and, as a result, less money will be available to the divorced spouse and the children.
In the future, alimony recipients will lose as much as 10-15% of what they would have received under the old law.
Future child support payments could also be affected.
Women and lower income recipients impacted
Unfortunately, the most vulnerable in a divorce, women and their children, will be severely impacted by the new legislation.
In the vast majority of divorces, the recipients of spousal support are women. Those women will now receive less in support and, in turn, they will have to make do with less income. Of course, having less income will negatively impact their children, if they have the majority of time with the kids.
This means that this will be detrimental to women, the primary recipients of spousal support.
Critics of the deduction elimination have said that legislators are taking money away from women at one of the most challenging times of their lives.
In fact, there will be less money to support two homes.
New law means longer divorce cases
Eliminating the deduction could make it more challenging to reach amicable divorce agreements. Indeed, cases could drag out longer, resulting in higher legal fees and unhappy spouses.
The impact of the loss of the deduction on prenups
Many prenups or postnups contain language and clauses which provide for the exact amount of spousal support if the couple divorce. Of course, these provisions have been negotiated with the assumption that the alimony payments would be deductible.
You should consult with an expert in premarital or postmarital agreements to make sure your contract will meet your expectations in the future under the new tax law.
What should you do?
The enactment of the new law will have significant negative implications on those divorces finalized after December 31, 2018. If you expect to divorce soon, please consult an experienced family law attorney for advice.
This year we will see an unprecedented number of divorce filings. For the first time, Congress has created a significant incentive for couples who are trying to work through some hard-times to instead call it quits and end their marriage right now.
Let me say it again, the new tax policy has created an incentive for couples thinking about divorce to file and complete their case by December 31, 2018, the date the new provision goes into effect.
Many divorce attorneys are advising their clients to start their divorce case as soon as they can in order to finalize their case by the end of the year. If they don’t, they may lose the deduction for spousal support and the recipient of the support will be forced to receive lower payments.