Many people are starting to notice that the new tax law could wreak havoc on their prenuptial agreement. If you are planning on getting married this summer, here’s a few things to consider before signing that prenup.
I’ve written about prenuptial agreements before. Prenuptial agreements, or prenups, are agreements you sign with your fiancé before marriage that outline how you two would end up in case of divorce or death.
A prenup can resolve things like alimony, ownership of businesses, title of properties, and even each spouse’s financial responsibilities during the marriage.
There are many other concerns that can be addressed in the prenup:
- Caring for a parent
- Going back to school
- Shopping habits
- Credit card debt;
- Tax liabilities;
- Alimony and child support from previous relationships; and
- Death or disability.
A few of the points of a prenup, is that you get to decide on the amount of alimony, the terms of alimony or whether you will pay any alimony at all, and how to divide movie royalties and other assets.
And because prenuptial agreements can impact how much alimony you agreed to pay or received, the new tax overhaul comes into play heavily in your agreement.
Tax Law Overhaul and Alimony
The new tax law offers an avenue for challenge because courts will likely have to consider how the law has changed since the contracts were created.
For example, beginning in 2019, people paying alimony will be no longer be able to deduct their alimony payments. That little change in the law could mean they effectively pay double in post-tax costs compared to what they had previously agreed to in their prenups.
President Trump, who pushed the new tax law, told New York Magazine in 2006 that his prenup with Melania Trump made his marriage stronger despite being a “hard, painful, ugly tool,” he didn’t disclose any details of the agreement.
More than 60% of divorce attorneys said they had seen a rise in the number of clients seeking prenups in the previous three years, while just 1% reported a drop.
There aren’t hard numbers, but it’s fair to say that prenups have become more popular in recent years as younger Americans delay marriage, and the divorce rate has skyrocketed for people over 50 who often use prenups if they remarry.
Prenups and New Tax Changes
If prenuptial agreements aren’t amended to factor in the tax changes, it will be up to divorce attorneys to settle — or judges to decide — whether the amounts or formulas still stand for couples who divorce starting in 2019.
Even if both parties agree to an adjustment in alimony, they’ll need to agree on exactly how much to cut the payers’ obligations. Divorcing couples could end up hiring rival accountants as expert witnesses to sway judges.
For those in the top income-tax bracket — the likeliest to have a prenup — being able to deduct the payout from taxable income had been a big saving because every dollar in alimony reduces the payer’s taxable income by the same amount.
Top earners in high-tax areas like California and New York City can face marginal tax rates close to 50 percent. Without the deduction, a spouse who agreed to write a $10,000 check each month could be on the hook for what is effectively almost $20,000 in pre-tax income.
Lawmakers said they eliminated the alimony deduction to end what they called a “divorce subsidy” under the old law.
The change, which raises an estimated $6.9 billion over the next decade, doesn’t affect divorces and separation agreements finalized before the end of 2018.
However, next year the newly divorced won’t be able to deduct alimony payments, but recipients will get the money tax-free (previously, the payments had to be reported as part of their taxable income).
Ultimately, the change could hurt alimony recipients. Payers could plead with judges to revise their obligations given the new law — a valid legal argument given that many prenups specifically mention that the payments are intended be deductible.
Those potentially reduced payments are likely to overpower the benefit recipients get from being able to receive the payments tax-free because they tend to be in lower tax brackets than the payers.
The Bloomberg article is here.