Alimony and Taxes
The term alimony is cash paid by one spouse to the other spouse pursuant to a divorce or separation agreement. The IRS defines alimony in Code Section 71. In order for the payments to qualify as alimony the payment must satisfy the following elements:
(a) In cash
(b) Paid to or for the benefit of a spouse
(c) Paid under a divorce or separation instrument
(d) Spouses cannot be members of the same household
If all of the above elements are satisfied, then the payments qualify as alimony. If you are a same-sex couple, the federal government will not recognize alimony payments as either includable or deductible income, but states that allow same-sex marriage will recognize the payments as alimony for the state income tax. Same sex couples can utilize their annual and life-time gift tax exemptions in order to avoid gift tax penalties. Continue reading for a more detailed explanation of the elements necessary to make payments classified as alimony.
This literally means cash. Direct payments for rent or other payments that satisfy a legal obligation of the payee will not qualify. Paid to or for the benefit of a spouse In addition to cash payments made, payments for health insurance can also count as alimony as long as the other elements are met.
Paid under a divorce or separation instrument
The alimony has to be stated or referenced in the divorce agreement, modification, or another written instrument, but does not need to be filed with the court.
Spouses cannot be members of the same household
Today, divorcees are more and more frequently living in the same household after they are divorced. If payments are made while the parties are living together, the payments will not qualify as alimony. Living under the same household includes parties living in two sections of a multi-family house or one spouse moving to the in-law apartment. If two parties insist on living in the building, then each party should be the sole deed holder of the unit.
Ends on the death of the spouse
This means the payments end of the death of either spouse, unless specifically stated in the agreement that the payments will survive the death of the payor.
The payments cannot be in lieu of child support
Agreements that may alert the IRS that the payments are not alimony are payments that terminate within 6 months of the children becoming the age of majority, 18 or 21. The presumption that the payments do not qualify as alimony may be rebutted if it can be shown that the payments terminated within 6 months of the children becoming the age of majority due to state law.
Not Front loaded
This element is instituted by the IRS in order to prevent parties from having the alimony payments be part of the distribution of assets (thereby non-taxable event). Front loading means that the alimony payments are not equally distributed according to the IRS. The IRS uses the first three calendar years (not fiscal) after the divorce to determine whether or not alimony is front loaded.
An easy formula to determine whether or not the alimony payments will be subject to recapture follows. If the payments are subject to recapture, then the recapture amount is deductible by payee and includable as income by payor (opposite of parties’ intent).
A=[yr2] – (yr3 +$15,000)
B= yr1 – [(yr2-A=yr3) / 2) +$15,000]
Recapture in yr3 = A +B Key
yr1- Alimony received in 1st year after divorce
yr2- Alimony received in 2nd year after divorce
yr3- Alimony received in 3rd year after divorce
Cannot file a joint tax return
This is self-explanatory. The parties cannot file a joint return after being divorced.