Tag: alimony tax reform

Divorce Time Flies

The New York Times is the latest media outlet noting that a new tax law – that took effect in January – has added a new urgency for many Americans contemplating divorce. Why would a new tax law have such an impact on divorce?

divorce time

Beat the Clock

As the New York Times article notes, several key changes in the tax law may determine whether it is better to complete or update a divorce agreement by Dec. 31st or wait until the new year.

One of the biggest changes affects alimony, which will not be a tax break for Americans after this year. The new tax law is also causing parting spouses to look more closely at benefits for their children and the values of privately owned businesses and partnerships.

In the Nick of Time

I’ve written about the area of divorce and taxes before, but the Times article notes four areas that couples considering a divorce should examine before the end of the year:

Alimony

As many people have heard, the tax law is going to turn the calendar back on alimony. 77 years in fact. That was the year the Revenue Act of 1942 first made alimony deductible for the spouse paying it and taxable for the spouse receiving it.

The new tax law could become a problem in divorces settled after December 31, 2018, because under the new law, the alimony payer will be taxed on the full amount while the recipient will pay no tax on it.

Prenuptial Agreements

It is common in prenuptial agreement to have language calculating alimony payments based on years of marriage, and a clause saying alimony payments are deductible for one spouse.

In the absence of guidance from the I.R.S., a document calling for deductible alimony might not be honored if alimony is no longer deductible.

Business Valuations

Business valuations have always been an important component of divorce. The new tax law increases the cash flow of certain pass-through entities — businesses where the taxes are picked up by the owner, not the company — in a way that raises their value.

However, a higher cash flow – because of the change in the tax law this year  – may not be known until the business owner files a tax return next year.

Other Assets

Should you ask for the house or retirement? The new tax law, particularly in states where deductions for high state and local taxes have been capped, may make the home less valuable than a retirement account with a similar value.

Spouses who get the retirement account will not be able to draw down on it until age 59½, but they will have a more solid financial base in their later years. And by opting for the retirement account over the house, they can avoid paying those property taxes.

The New York Times article is here.

 

The Alimony Race

Yet another news outlet is reporting on the 2018 Alimony Race. NPR weighs in on why people are rushing to finalize divorces this year: so they can deduct alimony payments before the new tax law kicks in.

alimony race

On Your Mark

As NPR reports, divorce lawyers and accountants have been advising many of their wealthier clients to hurry up and get divorced, like, now or at least before the end of the year because under the new tax law starting in 2019, a generous tax break for alimony payments will be gone.

The New York Times’, Jim Tankersley, who covers tax and economics stories, had a few things to say:

TANKERSLEY: So right now, if you get divorced – let’s say you’re a husband who is paying alimony to your ex-wife. You can deduct that, if you so agree with your spouse in the divorce settlement, from your taxes. But what’s going to happen is you won’t be able to anymore.

CHANG: OK, so spouses who will be on the hook for alimony payments will be eager to get their divorce settlements finalized this year but also, I can imagine, spouses who will be receiving the alimony payments because I would think that my soon-to-be ex would have more of a reason to give me more alimony if he or she gets a bigger deduction out of it this year.

TANKERSLEY: Yes, but it affects different couples differently. For couples who make essentially the same amount of money, if they’re in the same tax bracket, this is just an accounting shift. The same total amount of money changes hands.

TANKERSLEY: But for couples who make different amounts of money and are in different tax brackets, what they basically got before was a subsidy from the government for their divorce…

CHANG: What do you mean?

TANKERSLEY: …Because the higher-earning spouse was able to pass on income that would have been taxed at a really high rate but then instead was getting taxed at a low rate.

TANKERSLEY: So that difference between the tax rates was just free money from the government. Now that goes away. So, if you’re the husband, for example, who earned more and is paying that alimony to a wife, now you have to pay the taxes at the higher rate. That free money disappears, and so you are probably going to say to your ex-wife, sorry, there’s no more money; I’m not going to give you even more than I was originally thinking I was going to have to pay. And so, you the ex-wife end up with less money overall. And in between, the government gets more money.

CHANG: And I can imagine most couples that have severely disparate incomes – it’s usually the woman who earns less. So, this tax law change will probably have women bearing most of the cost.

TANKERSLEY: That’s what divorce lawyers and tax professionals and financial planners have been telling me – is that, yeah, it’s largely women who receive alimony. And particularly with wealthy couples, it’s largely women who leave the labor force to take care of kids or for whatever reason. And women earn less in the economy for the same work than men do. This is a potentially big loss for women…

Why it Matters

Spouses negotiating alimony payments may try to pay less when the change takes effect because there will be no tax savings.

The deduction is a big deal to couples negotiating their divorce because if someone who earns, say, $250,000 agrees to pay $4,000 per month in alimony, it really costs the person about $3,000 after taking the deduction into account.

Without the break, many people will agree to pay only what would have been their after-tax amount. It is feared that more couples will end up fighting in court because they won’t be able to agree on alimony.

2019 Deadline

The alimony deduction repeal doesn’t take effect immediately and won’t kick in until 2019. That is why lawyers are advising clients to file for divorce now.

However, meeting the 2019 deadline won’t be easy.

Some states have mandatory “cooling-off” periods, others states have residency requirements. So, you can’t just file for a divorce today, and expect that you’re going to be divorced tomorrow.

The NPR interview is here.