Tax Issues Surrounding Alimony, Spousal Support and Child Support
Alimony or spousal support is commonly described as the amount of support that is received by a spouse, paid by the other spouse, incident to a marital dissolution or separate maintenance agreement pending a divorce. Although Congress has developed rules and the Treasury has implemented rulings and regulations pertaining to the treatment of alimony payments, parties are typically free to agree to apply or suspend portions of the default rules. Alimony/spousal support should not be confused with child support, which is discussed further, below.
The default rule is that alimony/spousal support payments (as defined in Section 71(b) of the Code) are includible in the gross income of the recipient spouse and are deductible by the payor spouse. Further, the source of the funds used to fund an alimony payment does not affect its deductibility, nor does it affect its inclusion in the income of the recipient spouse.
What is considered alimony for tax purposes?
Among others, the presence of all of the factors below indicate an alimony/spousal support payment has been made:
The payment is received by a spouse under a divorce or written separation instrument;
if the spouses are divorced or legally separated, they do not reside in the same household when the spousal support payments are made;
the payor spouse’s liability to make payments does not continue beyond the death of the recipient spouse;
if the couple is still married (and are legally separated), they do not file a joint tax return; and
payments are not designated as payments not constituting alimony by a divorce or separation instrument.
Interestingly, there are several factors that are not required for a payment to be considered alimony, for tax purposes. For instance, alimony payments need not be for a fixed amount. Furthermore, alimony payments needn’t be guaranteed. Even payments that are not considered spousal support for family law purposes may be considered alimony for tax law purposes as long as the requirements above are met.
Although alimony and child support payments may look and feel similar, their tax treatment is anything but. As detailed above, alimony payments are deductible by the payor and includible in the income of the recipient spouse. On the other hand, child support payments are not deductible by the payor spouse or includible in income of the recipient spouse for tax purposes. Child support payments (for divorce tax purposes) can be identified as payments that are either:
designated as child support payments in the divorce or separation agreement, or
payments that are identifiable as child support payments due to their nature of being tied to the financial needs of the child.
Congress has enacted legislation that look at” alimony” payments that are reduced because of a contingency related to a child. The IRS will treat any such reduction as child support and thus, the amount will not be deductible by the payor or income by the recipient spouse.
Why is tax planning important with regard to alimony payments?
As described above, a spouse who is paying alimony is entitled to a deduction for the amount paid. If an agreement incident to a divorce or separation is poorly worded or the payments otherwise fail to qualify for alimony treatment, the payor spouse may be out of luck with regard to a deduction and the recipient spouse may not have to include the amount received in their gross income at the end of the tax year. Further, there are more complicated issues than those described here such as excess alimony recapture regulations where the Internal Revenue Code attempts to legislatively prevent what is essentially a nontaxable property settlement payment to be erroneously / fraudulently deductible as disguised alimony, which also prevents the front-loading of alimony.
Special consideration must also be given when a divorce or separation involves nonresident aliens. The U.S. tax court has ruled that payments made from a U.S. resident to a nonresident alien are U.S.-sourced and thus trigger the imposition of a withholding tax on the payor spouse. If proper withholding procedures are not followed, the payor spouse can find themselves personally liable for any unpaid withholding.
When dealing with divorces and separations with children involved, special care must be given to the drafting of the divorce or separation agreement to avoid issues related to the tax treatment of support payments. Parties who intend to create alimony payments may inadvertently end up without the tax treatment that they bargained for. The advice of an experienced tax attorney can help ensure that a divorce or separation instrument has the correct verbiage to obtain the desired tax results.