Rules Under the Old Spousal Support Tax Deduction
Before this specific provision of the Tax Cuts and Jobs Act was enacted at the beginning of the year, individuals who were obligated to pay spousal support were allowed to deduct those payments from their adjusted gross income on their federal income tax returns. The U.S. Internal Revenue Service (IRS) did not count the earnings that someone ended up using to pay spousal support in calculating their tax liability. Simply put, the spouse paying spousal support was not responsible for paying taxes on spousal support payments.
Conversely, taxpayers who received spousal support payments were required to report it as income for federal income tax purposes. The rationale for this system was that the spouse who received spousal support payments was responsible for paying taxes because they ultimately had the freedom to use those payments as they saw fit. In theory, spousal support payments were used to pay for living expenses like bills, rent, medical care, and food. In contrast, the spouse paying spousal support as seen more as a conduit through which the supported spouse received their income.
Rules Under the Tax Cuts and Jobs Act
On January 1, 2019, the provisions of the new Tax Cuts and Jobs Act came into effect. Among the reforms introduced by the act was a reversal of the old spousal support tax deduction. Now the payor spouse is responsible for paying taxes on amounts used to make spousal support payments, and the spouse who receives spousal support does not have to include it as taxable income.
The new tax treatment for spousal support payments only affects spousal support awards that are issued on or after January 1, 2019. For example, if you were divorced on December 10th, 2016, and continue to pay spousal support after January 1, 2019, you can still deduct your spousal support payments from your taxes. Furthermore, the spouse receiving spousal support must still report it as income.
However, if a spousal support order was modified on or after January 1, 2019, the new rules under the Tax Cuts and Jobs Act apply to subsequent spousal support payments. Thus, for example, if you were divorced on December 10th, 2016 and had to pay $3,000 a month in spousal support, a modified order issued on February 14th, 2019 that reduced your payments to $2,000 a month would subject your future spousal support payments to the new tax rules. Therefore, your tax liability would increase.
Who Benefits from the New Spousal Support Tax Deduction?
The taxpayers receiving spousal support are the ones who benefit the most from the new rules. Because the money they receive in spousal support isn’t taxed, they essentially get to keep 100% of the payments. This undoubtedly helps financially disadvantaged spouses who depend on spousal support payments for their livelihood.
However, many experts believe that there are net disadvantages with the new tax treatment of spousal support payments. One argument predicts that litigation expenses will go up for divorces, as spousal support will be an even more hotly contested issue with less opportunity for compromise. These pressures could result in an overall decrease in the amount individuals might receive for spousal support.
Furthermore, post-judgment modification actions may increase as spouses who receive spousal support might be incentivized to attain tax-deductible status for the payments they receive. However, the payor spouse has every incentive against modifying spousal support.
Even if a payor were able to reduce his or her monthly spousal support payments from $3,000 to $2,000, losing tax-deductibility for spousal support payments means taxable income for the year would increase by $36,000. The payor spouse is taxed on the entire amount even if he or she only paid $24,000 in support in 2019 because income taxes still apply to the $12,000 “saved” after modification.
Moreover, adding such a large figure to taxable income might place much of that money in a higher tax bracket. If the obligor spouse has an effective tax rate of 25%, while a modification would save $1,000 a month in spousal support payments, he or she must pay $250 of that amount in taxes.
Ultimately, the net effect on the parties to a spousal support obligation is an overall increase in taxes. This can be seen as a politico-economic disincentive to divorce. Will it be effective in lowering the divorce rate, or will it merely increase the financial hardship for divorcees? Only time will tell.
Need Legal Advice? Call Bremer, Whyte, Brown & O’Meara Today
If you are going through a challenging divorce involving spousal support issues, you should get legal advice from a licensed attorney. At Bremer, Whyte, Brown & O’Meara, we say current on recent developments in the law to help ensure your rights and interests in matters concerning divorce and spousal support are protected.
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