Yes, alimony is taxable. This principle is well-established, but the rules change frequently. In the early 1970s, when the divorce rate went through the roof, many people avoided paying taxes on alimony by classifying it as a “property settlement.” The IRS quickly closed that loophole, and most states closed it as well.
Then, from 1975 until 2017, obligors (people paying spousal support) could write off their payments. Obligees (people receiving spousal support) had to report this income. Very recently, as outlined below, the IRS changed the rules again.
Most states follow the trail blazed by the IRS. So, most states have also changed their alimony and tax rules. But some still follow the old model. A few even allow the “property settlement” loophole, at least in some cases.
Recent Tax Law Changes
The 2017 Tax Cuts and Jobs Act eliminated some deductions and reduced some income tax obligations. Alimony changes did both.
Lawmakers shut down the spousal support payment deduction, increasing the tax burden on obligors. The TCJA also eliminated the reporting requirement for obligees, reducing their income tax burden. The TCJA became effective January 1, 2019.
However, it’s not that simple. The TCJA changes were not retroactive. Therefore, if your divorce occurred prior to January 1, 2019, the old alimony and income tax rules still apply. If the judge modifies a pre-2019 spousal support payment order, the new rules may or may not apply, usually depending on the language in the modification order.
Some advocates maintain that the new rules benefit obligees, who are mostly women. Obligees pay lower taxes, as mentioned above. Furthermore, obligees can include alimony in an income calculation for a loan application, to increase their income.
Other advocates say the opposite is true. Oblogors may claim that they cannot afford to pay as much spousal support, since they lost the income tax deduction.
State Law Tax Changes
Not surprisingly, states have splintered along party lines. Red states quickly changed their tax rules to conform with the Republican-backed TCJA. Blue states, like New York, didn’t change. Section 612 of the New York Tax Law states that alimony payments will be subtracted from the obligor’s income and added to the obligee’s income.
There’s another wrinkle. New York, like most other states, didn’t change its family code rules to account for the federal income tax change. This inaction makes an “I can’t afford to pay alimony” argument a little more likely to succeed.
On a related note, many states also changed their standard/itemized deduction rules, to follow the TCJA. These changes might also have tax consequences for alimony payments and receipts.
Spousal Support Rules
Tax law changes didn’t affect the alimony rules. In most states, qualifying for spousal support is a two-step process.
In most states, alimony is presumptively unavailable, unless the obligee proves s/he has an economic need and the obligor has the ability to pay. Attorneys must introduce substantial financial evidence to overcome this presumption. Additionally, most states add a presumption that the order must include the absolute minimum amount of alimony necessary to bring about a just and right division of the marital estate.
Many states use child support-like formulas to determine the amount and duration of payments. Other states give the judge almost absolute discretion to make these decisions, based on factors like:
- Present and future earning capacity of each party (young, healthy, and well-educated people have a higher earning capacity),
- Necessary educational expenses, like finishing a degree, to become economically self-sufficient,
- Child support, marital property, and separate property awards,
- Dissipation (waste) of marital assets (usually buying gifts for a paramour),
- Terms of a premarital agreement,
- Length of the marriage,
- Domestic violence, if that violence restricts the victim’s future earning ability,
- Cost and availability of government or private health insurance,
- Custody of minor children, especially if a disabled child needs full-time care,
- Standard of living during the marriage,
- Noneconomic contributions to the marriage, especially if a spouse left a career to become a caregiver, and
- Income tax consequences for each party, as outlined above.
These factors might also apply in guideline states, if the judge determines the guideline amount would be unjust or inappropriate.
Other Tax Implications
Spousal support might be the most controversial divorce/tax issue, but it’s certainly not the only one. Others include:
- Dependent Tax Deductions: Under the old joint custody laws, children spend most of their time with custodial parents, making this issue easy to determine. Modern co-parenting orders often include a parenting time division that’s much closer to 50-50. So, a parent’s ability to claim the juicy dependent exemption is often up in the air.
- Property Divisions: A sale of a home in a divorce often includes substantial capital gains tax liability. An attorney must factor this obligation into the property settlement. As is the case with alimony and taxes, the TCJA changed the federal rules, and capital gains tax rules vary in different states.
- Child Support: Obligors cannot deduct these payments and obligees don’t have to report them. That’s another reason the TCJA changed the rules, to make spousal support more like child support for tax purposes. However, a court may order an obligee to assign the dependent exemption to the obligor, at least in some cases.
Since these rules are so complex, attorneys normally partner with accountants duering the property settlement process.
Related reading on the subject: