Photo credit: nypost.com
By: Haleigh Chastain
Member, American Journal of Trial Advocacy
On December 22, 2017, President Trump signed into law the Tax Cuts and Jobs Act that provided permanent tax breaks to corporations, temporarily cut the tax rates for individuals, and repealed the Affordable Care Act’s individual mandate.[i] There is no dispute that the new tax law will impact all Americans.[ii] With tax season quickly approaching, the question facing all tax filers is whether the new law will affect them positively or negatively. The news media has focused on corporate taxes and individual rate cuts, but one of the biggest changes brought about during this presidency involves how a spouse, responsible for paying alimony, and a spouse who receives alimony, will file his or her taxes. Alimony, also known as spousal maintenance, is awarded when one spouse of a divorcing couple, earns more than the other.[iii] The payments are typically awarded as a lump sum and paid over a period of several years.[iv] The payments are to help offset the cost of the lower-earning spouse to comfortably live on their own.[v]
Many divorce attorneys believe that the new “tax law could make divorce an even more miserable experience.”[vi] The new tax treatment of alimony will likely lead to more hostile and adversarial divorce negotiations.[vii] Because the new tax laws became effective January 1, 2018, divorcing couples that signed their divorce agreement before December 31, 2018, are spared the added complexity of the new tax laws on alimony.[viii]
For the past 75 years, prior to the passage of the new tax law, alimony payments were treated as tax-free for the payer and taxed as regular income for the payee.[ix] In simple terms, the paying spouse was allowed to write off the alimony payments as a deduction and the receiving spouse would report the alimony payments as income.[x] According to the IRS, over 600,000 Americans claimed an alimony deduction on their 2015 tax returns,[xi] paying a total of $9.6 billion in alimony payments.[xii] Previously, the deduction encouraged the spouse with a higher income to help support the lower earning spouse with a significant amount of money.[xiii] The prior tax laws, as to alimony deductions, appeared to benefit both parties.[xiv] The paying spouse benefited with a reduced tax obligation, while the receiving spouse benefited with a higher income.[xv] This set up was designed to allow more money to be allocated towards the lower earning spouse.[xvi] Attorneys believe the previous tax law made a “big economic difference,” in that it allowed people to pay more in alimony.[xvii]
Under the new tax law, any spouse paying alimony in a divorce agreement, entered after December 31, 2018, will not be allowed to deduct the alimony payment on their taxes.[xviii] Additionally, the spouse receiving alimony payments will not have to pay taxes on the money received.[xix] The rationale behind this new tax provision was based on a general belief that a divorced couple achieved a better tax result than a married couple; therefore, the new law was implemented to shift the benefit back to the married couple.[xx] Since both parties are typically in different tax brackets upon separation, this change could negatively affect both parties.[xxi] In fact, the committees that examined this matter in Congress estimated that by repealing the tax deduction, tax revenue will increase by $6.9 billion over the next 10 years.[xxii]
The new tax law has not received much praise from divorce litigators. Divorce attorneys believe this could potentially make the divorce process even more drawn out.[xxiii] Without the tax deduction, the higher earning spouse will have less incentive to pay alimony due to no longer getting a taxable deduction, resulting in a push to lower alimony in general.[xxiv] Additionally, the fight over alimony will likely spill over into the calculation of child support.[xxv]
Additionally, this new law could place a chilling effect on modification attempts. In many instances post-divorce, both alimony payers and payees seek to modify alimony payments.[xxvi] Under the new law, if parties seek a modification of a current alimony plan, the modification will be subject to the new laws on taxing of alimony payments and receipts.[xxvii] If the modification is finalized after January 1, 2019, the deductions are no longer applicable.[xxviii] This will likely give divorced couples an incentive not to modify their alimony payments.
The Wall Street Journal published a very clear example of the effect of the tax law changes on alimony payments.[xxix] For example, if Spouse A, the high-earning spouse, is ordered to make alimony payments, for 10 years, in the amount of $100,000 annually to Spouse B, Spouse A will likely save $37,000 in taxes, per year, due to the deduction. Conversely, Spouse B, in a lower tax bracket, would likely owe $15,000 on their taxes, based on the yearly $100,000 received in alimony. However, if this couple were to divorce next year, once the new law goes into effect, Spouse A would likely pay much less in alimony.[xxx]
Effects of the New Law
So, what exactly does this tax law do? Ultimately, the new tax law regarding alimony will allow the government to have higher overall revenue because the deducting spouse is likely to be in a higher tax bracket than the spouse who declared the alimony as income.[xxxi] This could also push the alimony payer into a higher tax bracket with the lack of deductions coming from alimony payments.[xxxii] Additionally, this new law will impair the spouse receiving alimony, who will now be receiving a lower amount, and likely be unable to sustain the lifestyle they lived prior to divorce.
This change will likely bring a rise in the amount of divorce settlements that will take place prior to the start of 2019.[xxxiii] The paying spouse will likely want to push the divorce along in order to ensure they reach a settlement before the new law officially takes effect. Attorneys feel like the previous law helped settle cases and see this change in the tax law as a significant disadvantage in divorce cases.[xxxiv] Some couples will likely delay their divorces thinking they have an advantage. However, while the paying spouses will not get tax deductions, the other spouse is not likely to demand less alimony. Lawmakers think the new law is “taking money from people who’ve undergone the trauma of divorce and they’re taking money from people at one of the worst times of their life.”[xxxv]
Furthermore, this could potentially have an effect on prenuptial agreements.[xxxvi] Prenuptial agreements typically have alimony provisions with the tax deduction already assumed.[xxxvii] Will this new law trigger states to alter their alimony guidelines? The full repercussions of this law will not be seen for another year. In the meantime, divorce attorneys should expect their clients to eagerly want to get their divorces finalized before 2019.
[i] Christina Wilkie, Trump Signs GOP Tax Plan and Short-Term Government Funding Bill on his Way Out of Town, CNBC Politics (December 22, 2017), https://www.cnbc.com/2017/12/22/trump-signs-gop-tax-plan-short-term-government-funding-bill.html.
[ii] Here’s How the Tax Plan Could Change Divorce in a Big Way, N.Y. Post (December 22, 2017), https://nypost.com/2017/12/22/heres-how-the-tax-plan-could-change-divorce-in-a-big-way/ [hereinafter “Tax Plan”].
[iii] Laura Saunders, The New Tax Law: Alimony, Wall Street J. (February 13, 2018), https://www.wsj.com/articles/the-new-tax-law-alimony-1518540847.
[vi] Ben Steverman, Trump’s Tax Law Could Make Divorces More Bitter, Bloomberg Politics (February 15, 2018), https://www.bloomberg.com/news/articles/2018-02-15/tax-overhaul-seen-spurring-more-acrimonious-divorce-negotiations.
[ix] Debra Cassens Weiss, New Tax Law Affects Alimony, Could Spur Divorce Surge, ABA J. (February 6, 2018), http://www.abajournal.com/news/article/new_tax_law_affects_alimony_could_spur_divorce_surge/?utm_source=maestro&utm_medium=email&utm_campaign=weekly_email.
[xi] Jackie Wattles, Alimony Payers Lose Tax Deduction Under GOP Bill, CNN Money (December 15, 2017), http://money.cnn.com/2017/12/15/pf/taxes/alimony-tax-bill/index.html.
[xii] Jennifer Peltz, Exes and Taxes: How the Tax Overhaul Would Alter Alimony, USA Today (December 24, 2017), https://www.usatoday.com/story/money/taxes/2017/12/24/exes-and-taxes-how-tax-overhaul-would-alter-alimony/976413001/.
[xiii] Quentin Fottrell, Under Trump’s Tax Law, You Now Have a Year to avoid a Nasty Divorce, Market Watch (February 14, 2018), https://www.marketwatch.com/story/under-trumps-tax-plan-divorces-are-about-to-get-a-lot-nastier-2017-11-03.
[xvi] Peltz, supra note 12.
[xvii] Steverman, supra note 6.
[xviii] Peltz, supra note 12.
[xx] Tax Plan, supra note 2.
[xxi] Saunders, supra note 3.
[xxii] Peltz, supra note 12.
[xxiii] Steverman, supra note 6.
[xxiv] Weiss, supra note 9.
[xxv] Wattles, supra note 11.
[xxvi] Elizabeth Weiss, Paying Alimony? What the New Tax Law Means to You, AvvoStories (January 16, 2018), http://stories.avvo.com/money/taxes/paying-alimony-new-tax-law-means.html.
[xxix] Saunders, supra note 3.
[xxxii] Weiss, supra note 9.
[xxxiii] Steverman, supra note 6.
[xxxiv] Annie Nova, Alimony Tax Changes May Scorch Divorcing Couples, CNBC (February 16, 2018, 11:15AM), https://www.cnbc.com/2018/02/16/loss-of-alimony-tax-break-in-tax-law-may-inflame-divorce-negotiations.html.
[xxxv] Peltz, supra note 12.
[xxxvi] Weiss, supra note 9.
[xxxvii] Wattles, supra note 11.