Spousal Support: The 2017 Tax Act and the Repeal of the Alimony Deduction
The 2017 Tax Act ushers in a significant change to the tax treatment of spousal support. In Missouri, we call spousal support payments “maintenance.” Maintenance qualifies as “alimony” under the Internal Revenue Code when certain requirements are met. For purposes of this posting, we will treat “maintenance” and “alimony” synonymously. The term “alimony” is important in this context, because in order to obtain favorable tax treatment for spousal support or maintenance, it must meet the requirements set forth in the Internal Revenue Code for “alimony.”
For many, many years, maintenance awards in Missouri have been treated as alimony, and hence the payments are deductible from income of the payor, and taxable as ordinary income to the recipient spouse. Although the specific requirements of the law have changed over the past 60 years, deductibility has long been achievable in almost all divorce cases in which alimony is agreed upon or awarded by the court.
Prior to 1984, the tax code allowed spousal support to be deducted if the payments were clearly “in discharge of a duty of support”, and if they met the “periodicity” requirement, i.e. they extended for a sufficient period of time such that they were considered deductible alimony. The law changed in 1984, and again in 1986, re-working the specific requirements for deductibility. However, alimony remained deductible.
Allowing the payor to deduct maintenance payments from income is important in divorce, because by allowing the payor to deduct payments from taxable income, more cash typically remains available to apply to the needs of the recipient spouse. This is because in the typical case, the payor is in a higher tax bracket than the recipient spouse. By allowing the higher-bracket payor to deduct maintenance paid from taxable income, the government receives less tax revenue, because the recipient spouse pays tax at a lower rate. Nevertheless, because of this “bracket shift,” the transfer of funds via alimony, in the typical case, leaves more money available to pay for family needs after divorce.
Another reason it is helpful to allow the payor to deduct alimony paid is it is an aid to resolution of divorce cases by agreement, because deductibility of maintenance lessens the burden of the payment, to the payor. Money that would otherwise be paid in taxes can be re-directed to the recipient spouse. It is easier to negotiate agreements in maintenance disputes when it can be demonstrated to the payor that the “real cost” of $6,000 per month in maintenance is less than $4,000, due to the ability to deduct maintenance from income.
The 2017 Tax Act ends this by stating that alimony will no longer be deductible to the payor, nor taxable to the recipient, for any judgments entered after December 31, 2018. If this holds, and is not changed by Congress during the year 2018, the deductibility of alimony will be eliminated after 2018, although the change in tax treatment will not affect judgments entered prior to January 1, 2019. The original tax bill proposed by the House of Representatives ended the alimony deduction for judgments entered after December 31, 2017; thus, the final bill passed into law delays the repeal of the alimony deduction by a year. Certainly, this leaves open the possibility that further changes could occur in the 2018 congressional year.
What will the net effect of the repeal of the alimony deduction be? It is hard to predict, but many believe it may ultimately mean that in the aggregate, alimony awards will be a bit lower. The recipient will not have to pay taxes on the alimony received, but the net amount of alimony received may be less. We won’t really know until it starts to happen—but that’s still a year or more away.