Note: This is one of a series of articles explaining how the various tax changes in the GOP’s Tax Cuts & Jobs Act (referred to as “the Act” in this article), which passed in late December of 2017, could affect you and your family, both in 2018 and in future years. This series offers strategies that you can employ to reduce your tax liability under the new law.
Alimony is the term used for payments to a separated spouse or ex-spouse as part of a divorce or separation agreement. Since 1985, to be alimony for tax purposes, the payments:
- Must be in cash, paid to the spouse, ex-spouse, or a third party on behalf of a spouse or ex-spouse;
- Must be required by a decree or instrument incident to a divorce, a written separation agreement, or a support decree;
- Cannot be designated as child support;
- Will be valid alimony only if the taxpayers live apart after the decree is issued or the agreement is signed. Spouses who share the same household don’t qualify for alimony deductions. This is true even if the spouses live separately within the dwelling unit.
- Must end on the death of the payee; and
- Cannot be contingent on the status of a child (that is, any amount that is discontinued when a child reaches 18, moves away, etc., is not alimony).
The payments need not be for support of the ex-spouse or based on the marital relationship. They can even be payments for property rights, as long as they meet the above requirements. Payments need not be periodic, but there are dollar limits and “recapture” provisions if there is excess front-loading of payments. Even if the payments meet all of the alimony requirements, the couple may designate in their agreement or decree that the payments are not alimony, and that designation will be valid for tax purposes.
Divorce Agreements Completed before the End of 2018 – For divorce agreements finalized before the end of 2018, the recipient (payee) of alimony must include it in his or her income for tax purposes. The payer is allowed to deduct the payments above the line (without itemizing deductions), technically referred to as an adjustment to gross income. The spouse receiving the alimony can treat it as earned income for purposes of qualifying to make an IRA contribution, thus allowing the recipient spouse to contribute to an IRA even if he or she has no other income from working.
Because the spouses making the payments will sometimes claim more alimony than they actually paid and some recipient spouses will sometimes report less alimony income than they received, the IRS requires the paying spouse to include on his or her tax return the recipient spouse’s Social Security number so the IRS can match by computer the amount received to the amount paid.
Divorce Agreements Completed after 2018 – Under the Act, for divorce agreements entered into after 2018, the alimony is not deductible by the payer and is not taxable income for the recipient. Since the recipient isn’t reporting alimony income, it cannot be treated as earned income for purposes of the recipient making an IRA contribution.
This revised treatment of alimony also applies to any divorce or separation instrument executed before January 1, 2019, that is modified after 2018, if the modification expressly provides that the change made by the Act is to apply.
If you have questions about the treatment of alimony or other tax matters related to divorce, please give us a call.