Your Money: When is Alimony Tax Deductible?
Tax considerations in divorce, separation and domestic disputes
There are usually four groups of people as parties to a divorce- the husband, the wife, the children and the IRS. It’s important to reduce the participation of the IRS. Various taxes related issues to consider in a divorce are alimony, child support, division of property, dependency exemption, medical expenses and timing.
Alimony. By definition payments can’t be alimony unless specified in a written agreement or court decree. Typically one ex-spouse makes obligated payments to the other spouse. Payments of alimony are deductible by the payer and taxable income to the recipient. It is called an above the line deduction which reduces adjusted gross income. In most cases it doesn’t matter what the divorce decree might say or what the individuals intended. For payments to qualify as alimony for federal tax purposes, all of the following requirements must be met.
The payment must be made pursuant to a written divorce or separation instrument.
The payment must be to or on behalf of a spouse or ex-spouse. Payment to third parties, such as attorney and mortgage companies, are okay if made on behalf of a spouse or ex-spouse and pursuant to a to a divorce or separation agreement or at the written request of the spouse or ex-spouse.
The divorce or separation instrument cannot state the payment is not alimony.
After divorce has occurred. This means that the couple is divorced for federal income tax purposes. The ex-spouses cannot live in the same household or file a joint return.
The payment must be made in cash or cash equivalent.
The payment cannot be fixed or child support.
The obligation to make payments must stop if the recipient party dies. If the divorce papers are unclear about whether or not payments must continue, stare law controls. If under state law, the payer must continue to make payments after the recipient’s death, the payments cannot be categorized as alimony.
The payer’s return is required to include the payee’s social security number.
Child Support. This is neither a tax-deductible expense for the payer nor taxable income for the payee. A state agency may now intercept tax-refund checks owed to parents who are delinquent in child-support obligations. The state social service agency that requests the interception gets the check.
Divisions of Property. A division of property pursuant to a divorce settlement isn’t subject to any tax. (But a later sale of the property may be taxable.)
Dependency exemption. Generally, the person who has custody of the children claims the dependency exemption. However, the divorce agreement can change this. Many divorcing couples are concerned not only with the amount of the exemption but also with the filing status of the parent claiming the exemption.
Medical expenses. Sometimes the parent paying the medical expenses is not the custodial parent and doesn’t claim the child as a dependent but is paying through a company medial-reimbursement plan. That parent may still qualify for a reimbursement for the child’s expenses if this is allowed by the plan.
Separation before divorce. In certain instances, even though a divorce hasn’t been completed, the parent with custody can file as an unmarried head of household. Head-of-household rates are much lower than “married filing separately” rates. Timing a divorce is crucial in tax planning. Let’s say a couple separates and one spouse continues to pay the household expenses. If they divorce before the end of the year, they must file separate returns. In this case, the supporting spouse ends with nondeductible costs, and the other spouse may have nontaxable income. It is better to wait until the beginning of a new tax year to finalize a divorce.
Seeking professional advice can be a tax saving for both you and you’re soon to be ex-spouse.
Julie M. Sturgeon is a Certified Public Accountant in Valencia, specializing in individual and business tax issues. She can be reached at 251-6031 or HYPERLINK mailto:Julie@cpasturgeon.com Julie@cpasturgeon.com . “Its Your Money” appears Sunday and rotates among SCV financial professionals
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