The Proposed Tax Reform
The Tax Cuts and Jobs Act (TCJA) legislation announced this week would eliminate the spousal support (alimony) tax deduction for the payor and make the spousal support (alimony) payments received tax free to the recipient. This change effectively eliminates the tax bracket arbitrage between the divorced spouses’ tax brackets and will make other tax code subjects like spousal support recapture and child contingency rules obsolete.
This change in the treatment of spousal support would only apply to new spousal support agreements entered into beginning in 2018. Current support agreements would not be affected unless the agreement is modified after 2018
Many people who have read the legislation believe there is a good chance it will pass and become law very close to its current form. From our perspective, this law will take away one great financial benefit of divorce.
What does it mean for you? If you are currently in the middle of divorce proceedings, you should consider the effect the rule change will have on you long term whether you are the payer or recipient. It will also require many states to revisit their guideline formulas for determining spousal support.
Remember, this bill has not become law as of writing this post but beware of the pending change and possible changes to any agreements entered into in 2018.
Current Spousal Support Deductions
Under current tax law, spousal support payments are deductible to the individual paying the spousal support and reported as taxable income by the recipient (unless the divorce decree or separation agreement stipulates otherwise).
In practice, this tax treatment often generated tax savings for a divorced couple, as the payor of the spousal support (who received the deduction) was typically the higher income spouse (in a higher tax bracket), while the spousal support recipient was typically the lower income spouse (in a lower tax bracket). Transferring income from the higher tax bracket to the lower also allows for some creativity by the attorneys and Certified Divorce Financial Analyst™ to minimize the overall tax liability.
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