SPOUSAL SUPPORT AND THE NEW TAX CODE
The newly enacted tax code will effect some very significant changes that directly impact the practice of family law and the nature of settlement negotiations in both divorce and custody cases. This article considers the impact on the payment of spousal support in divorce cases.
As of this writing, I have practiced family law for over 33 years. During that entire time, spousal support (previously called “alimony”) has been a tax-effected payment. In fact, that has been the law for over 75 years. What that means is that the payer of support could deduct every dollar paid in spousal support off the top of his/her taxable income. Conversely, the spousal support received by the payee was treated as taxable income. This has never been true of child support, by the way. And, under the new tax code, it will no longer be true of spousal support either, effective for any divorce case filed after December 31, 2018. It does appear that spousal support orders that pre-date January 1, 2019 will be exempt from the loss of tax effect on payments.
Family law attorneys are well-versed in using the tax effected nature of spousal support in settlement negotiations. As a general rule (although I have certainly seen my share of exceptions), the payer of spousal support does not want to pay support, even where equity suggests it is the proper thing to do. One of the ways in which to ease the pain of paying was to point out the tax benefit to the payer. Also, because of its tax effect, payers of spousal support would often be willing to pay spousal support in lieu of some other compensation to the payee spouse. The following example shows that the tax effect of spousal support is not just a “feel good” issue; it is a real savings for the parties. Here is an example:
Imagine high-earning Spouse A is currently paying $30,000 a year in spousal support, which is deducted from the top of Spouse A’s taxable income. Spouse A's income is federally taxed at 33%, so the deduction saves Spouse A $9,900.
Lower-earning Spouse B owes taxes on the alimony at a 15% rate, paying $4,500 instead of the $9,900 that would be due at Spouse A's rate. The two have saved $5,400 between them, and Spouse A got a break that makes the payments more affordable.
I always caution my divorce clients that the same income that once supported one household will, after the divorce, have to be stretched to support two households. Both parties will have to tighten their belts, but the tax effect of spousal support typically will make more money available to the parties. Under the new tax code, that savings goes away, and the federal government collects the $5,400 in taxes in our example. The effect of losing the tax effect of spousal support will increase the financial hardship to the parties. From a practitioner’s point of view, it takes away a key aspect of settlement negotiation. Further, there is real concern about the lower-earning spouse, which has traditionally been the stay-at-home mother. Statistics have long demonstrated that it is the single mother (and children) who suffer most financially in a divorce. The change in the tax code will certainly increase the risk of the single, lower wage-earner and the children will live in poverty.