Relationships that are on the verge of breaking often end in divorce after the season has passed. While the process of divorce is already difficult both mentally and emotionally, it can be made even more grueling by encountering unforeseen tax consequences.

The Tax Cuts and Jobs Act (TCJA) made impactful changes to the alimony rules.

Divorcing or separating taxpayers need to be aware of how the breakup of a marriage may affect their 2019 tax returns. The tax treatment of alimony and separation payments changed for divorce and separation agreements that occurred (or, in some cases, were modified) after 2018. Prior to the Tax Cuts and Jobs Act, alimony was deductible from the gross income of the payer and had to be included in the gross income of the recipient. This remains true for agreements executed no later than 2018. But for agreements executed after 2018, these payments aren’t deductible from the payer’s gross income, and aren’t includable in the recipient’s gross income. (IRS Tax Reform Tax Tip 2019-88).

Key Considerations When Navigating a Divorce

When engaged in a heated battle of property division, taxes may be the last thing on a divorcing couples minds’, but considering the significant impact taxes have on the dollars left on the table, they should be at the top of the list. One misstep in planning often works to the benefit of the tax collector. Below we have summarized some key considerations in the tax arena that deserve attention when navigating a divorce:

Filing Status

This is one of the most frequently asked questions we receive from divorcing couples. The IRS considers a taxpayer who is married on the last date of the year as married, and that couple may file as married filing joint, married filing separate, or in some cases, as head of household. You are still considered married even if you are separated. You are only considered unmarried if you have obtained a final decree of divorce by the last day of the year.

As most people know, the filing status used on your tax return helps determine whether you can claim certain deductions or credits and affects your tax rate. A couple that is in the midst of divorce on December 31 can do appropriate tax planning with their tax professional to verify the status chosen is the most beneficial to both parties.

Alimony

Alimony, unlike child support, is typically considered income to the recipient and a deduction to the payor. In order for this to be the case, certain criteria must be met: taxpayers cannot file a joint return, payments must be made in cash (including checks or money orders), the payment must be received by the former spouse in the year for which you are taking a deduction, the divorce or separate maintenance decree cannot state that the payment is not alimony, former spouses shall not be members of the same household when payment is made/received, there should be no liability to make the payment after the former spouse is deceased, and your payment must not be considered child support.

If you are the payor, you do not have to itemize to receive the deduction, rather the full amount paid reduces adjusted gross income on Page 1 of Form 1040.  It is important to include the social security number of the recipient, or you could risk a penalty from the IRS and loss of the deduction.

As briefly mentioned earlier, child support is not taxable to the recipient, and is not deductible by the payor.  To clearly decipher between alimony and child support, it is pertinent that the divorce decree defines the payment as “child support”.  As both alimony and child support can have impactful tax consequences, a family law attorney should carefully word the divorce documents.

Please note that the Tax Cuts and Jobs Act (TCJA) made impactful changes to the alimony rules. Payments made via divorce agreements executed on or prior to December 31, 2018, will follow the same rules mentioned above on deductibility and inclusion in income.  Alimony payments via divorce agreements executed on January 1, 2019, and later will not be deductible to the payor, and not includible in income to the recipient.  There is a great deal of planning around this revision and it is highly recommended that couples consult with their attorney and CPA before finalizing documents.

Deductions in Year of Divorce

Often divorces take months, even years, to finalize and life as we know it continues behind the scenes. A common question taxpayers have relates to division of deductions – mortgage interest, medical expenses, property taxes, and the list goes on. These tax write-offs are considered marital assets and similar to other assets, an agreement must be made by the divorcing couple as to how to divide them.

For example, if the marital home is occupied by one spouse, but both spouses continue to pay the mortgage, one choice could be to split the deduction equally on the tax return. An alternative agreement may be that one party claim the mortgage interest and the other claim the property taxes. The tax reporting document may still be issued to one spouse, but that doesn’t take precedent on who takes the deduction.

What is most important is communication between the parties to ensure that both aren’t taking the full deduction, as the IRS will certainly issue matching notices and further fees will rack up in resolving the tax return.

As we’ve summarized above, there are many tax considerations when navigating a divorce. With proper planning, both parties can retain more tax dollars and give less to Uncle Sam. Many times the most advantageous outcome for both parties comes from projections using various scenarios.

In addition to tax professionals, LBMC also provides litigation support services to family law attorneys in both traditional and collaborative divorces.  Look for an upcoming article on collaborative divorce in our next issue of the navigator.

Our team of advisors would be happy to help you in these areas should a need arise.

LBMC tax tips are provided as an informational and educational service for clients and friends of the firm. The communication is high-level and should not be considered as legal or tax advice to take any specific action. Individuals should consult with their personal tax or legal advisors before making any tax or legal-related decisions. In addition, the information and data presented are based on sources believed to be reliable, but we do not guarantee their accuracy or completeness. The information is current as of the date indicated and is subject to change without notice.