By Marcia Mantell
When the Tax Cut and Jobs Act was signed into law late last year, there were some surprises. In the positive column, there were tax cuts for most individuals and a higher standard deduction, making some extra schedules a thing of the past. In the negative column, there were changes to alimony, on both the payor's side and the recipient's side, that have rocked the boat for many who are either divorced or going through the process.
Some 98% of people receiving alimony checks are women, according to the U.S. Census Bureau. And as women are typically the lower wage earners, they usually are the ones who receive alimony. Also, women continue to be the primary caregivers for their children. It is no surprise then that of those receiving child support, 92% are women.
Alimony has been a distinct part of tax law for decades. Through the end of this year, the current law operates in the following manner: The person paying alimony takes the payments as a deduction. The person receiving an alimony payment declares it as income and pays tax on that income.
The system has been working for decades, so why change it now? The issue that's been debated in Congress goes like this: It's generally the higher earner who pays the alimony, so he (in most cases) is in a higher tax bracket and therefore gets a significant tax deduction. The recipient, usually the wife, is generally the lower earner and in a lower tax bracket. While she ends up paying tax on the income, it's usually at a lower tax rate.
As a result, if the alimony payment is say, $30,000, less taxes are paid on that money than would have been the case if the couple were still married. To some, this is considered a "divorce subsidy," though most divorced couples would not see it in this light.
The new tax law reverses these tax arrangements. Beginning on Jan. 1, 2019, the payor will no longer be able to claim a deduction for alimony payments and the recipient will no longer declare alimony as income. It's fair to say that many payors are upset by this change.
Let's look at the impacted parties and relevant dates.
First, for those who are already divorced and have finalized the terms of their divorce, or whose terms will be final by Dec. 31, 2018, it's business as usual. There are no changes to the tax rules for alimony. Not in 2018, not in 2019, not going forward. In other words, if you are paying or receiving alimony by the end of 2018, you continue to operate under current tax law: payors deduct alimony, receivers pay income tax. You are grandfathered in under the old law.
If you get divorced at any point in 2019, or if your divorce is finalized any time Jan. 1, 2019 or later, you will be subject to the prevailing law, the new version. In this case, alimony amounts will be considered and determined based on the fact that the payor will bear the full tax burden. The concern here is that alimony could be reduced since there is no offset to the payor.
Where things get challenging is right now. If you are in the process of a divorce in 2018, there might be some conflict in finalizing the divorce, depending which side of the fence you are on. If you are the one who will have to pay alimony, you may want to get the final paperwork completed in 2018 so you can take tax deductions on your payments. However, if you are the receiving party, you may want to delay until 2019 so that you won't have to pay taxes on this income.
This is a no-win situation and it may serve to make the divorce proceedings even more stressful in this transition period. In the ideal situation, any alimony agreement should consider adequate support for the lower-earning spouse to meet basic needs as well as the payor's ability and sustainability to pay. But, the reality is it can be difficult for both parties to feel the monetary decision has been equitably handled.
Another situation playing out during this transition period is where an existing alimony arrangement needs to be a modified. Changes and adjustments to alimony amounts are not uncommon. Generally, the situation is that the payor loses his job and has not been able to find a new job or finds one that pays a reduced salary. Or, he may suffer a health situation that prevents him from working any longer.
In these cases, the payor often requests to modify the agreement and reduce the alimony payment. It is rarely a fast or easy process, so anyone today working through modifications may run into the Dec. 31 deadline. If the decisions cannot be completed by year end, any modifications will end up in 2019 or later. At this time, the working assumption is that these situations will fall under the new rules and more changes than just the reduction in payments may well occur.
The new tax law has catapulted divorce and alimony payments into the land of even greater confusion. There are many new decisions to make and numbers to be calculated whether you are the payor or the receiver of alimony. But, the complexity doesn't stop with the new tax law. There are many financial considerations each party must take into account when splitting up a financial household. Surround yourself with the best professionals and take their advice. Learn as much as you can on your own to boost your own confidence. Remember that no question is too dumb to ask. Plus, with a team in place, starting with a top-notch divorce attorney, you'll feel better knowing that these folks have your back and will help you navigate the pitfalls that are bound to come up during this chapter of your life.
About the author: Marcia Mantell is the founder and president of Mantell Retirement Consulting, Inc., a retirement business development, marketing & communications, and training company supporting the financial services industry and its clients. She is author of "What's the Deal with®... Retirement Planning for Women" and blogs at BoomerRetirementBriefs.com.