GPSolo Magazine - March 2005
Domestic Relations Law
Federal Income Tax Provisions Related To Alimony Payments
Interspousal payments that meet the requirements for treatment as alimony are included in the gross income of the recipient under the terms of IRS Section 71(a) and are allowable as a deduction under Section 215 from the gross income of the payor. Ensuring that a payment can be properly classified as alimony will often enhance the financial position of the family group because the payment can then be taxable income to the lower earner at a lower rate and likewise can be deductible to the higher earner in the higher tax bracket.
This article provides an overview of federal tax considerations relevant to payments treated as alimony.
General attributes of alimony under the Internal Revenue Code. Under Section 71(b), payments are alimony when:
• Payments are received by a spouse pursuant to a written divorce or separation instrument—Section 71(b)(1)(A)
• Payments are made to or on behalf of a spouse or former spouse—Section 71(b)(1)(A)
• Payments are in cash or cash equivalents—Section 71(b)(1)
• The spouses reside in separate households when the payment is made, if they are divorced or legally separated—Section 71(b)(1)(C)
• The payor spouse’s obligation to make the payment does not continue for any period after the death of the receiving spouse—Section 71(b)(1)(D)
• The payor spouse and the recipient do not file a joint return—Section 71(e)
• The instrument does not specifically state that the payments are not alimony—Section 71(b)(1)(B)
With respect to payment under a written divorce instrument, section 71(b)(2) defines “divorce or separation instrument” as (A) a decree of divorce or separate maintenance or a written instrument incident to such a decree; (B) a written separation agreement; or (C) a decree (not described in subparagraph (A)) requiring a spouse to make payments for the support or maintenance of the other spouse. The divorce practitioner must be cognizant that any divorce proceeding may give rise to several writings that conform to these requirements, and careful analysis must be made as to which document establishes the obligation to pay in deciding whether the payment is alimony.
A crucial element in determining whether a payment between spouses is alimony is whether the payment is made under the instrument in question. The payment must be required by the instrument giving rise to the obligation and must have been made after the entry or execution of the instrument. Payments made prior to the entry or execution of the instrument will be considered voluntary and will not qualify as alimony even if the parties or the court make the relevant instrument retroactive.
All payments must be in the form of cash, including checks or money orders payable on demand. Transfers of property, execution of debt instruments, or the provision of services in satisfaction of a support obligation will negate treatment as alimony for tax purposes. This may be of particular interest when satisfaction of alimony arrearages in lump sum is contemplated, because the parties often search for any transfer of available assets to satisfy the unpaid obligation. Failure to liquidate the asset and to make the actual payment in cash will result in its being treated as something other than alimony. Lump-sum payment of arrearages made in cash will qualify as alimony.
Cash payments made to third parties on behalf of a spouse or former spouse will qualify as alimony if they meet the other elements of the definition. The payment must be made “pursuant to the written request, consent, or ratification of the payee spouse.” Additionally, the “request, consent, or ratification must state that the parties intend the payment to be treated as an alimony or separate maintenance payment to the payee spouse subject to the rules of Section 71, and must be received by the payor spouse prior to the date of filing of the payor’s first return of tax for the taxable year in which the payment was made.” The written request, consent, or ratification must merely state that the intention is alimony treatment. There is no express requirement that the payment actually be for the support or maintenance of the recipient spouse.
Payments made to third parties must be “on behalf” of the spouse or former spouse. Payments are on behalf of a recipient spouse only to the extent that the recipient spouse has legal title to the property or is the named lessee.
Payments will not qualify as alimony if the payor and recipient are members of the same household at the time of the payment and if they are legally separated or divorced. The requirement of separate households requires two separate and distinct dwelling units, even if the spouses separate themselves within the same household, unless one of the spouses departs the household within one month after the payment is made. This requirement applies only when a legal decree of divorce or legal separation has been entered. Temporary support payments made prior to the entry of a final decree may be classified as alimony even if the parties continue to reside in the same dwelling.
Payments of alimony must end at the death of the recipients. Any decree that specifies any obligation at the death of the recipient to make payments as a substitute for or in lieu of spousal support payments will negate the alimony treatment of both pre- and post-death payments. Even if the decree does not specify that the payment is an alimony substitute or in lieu thereof, any payment that commences, increases, or accelerates at the recipient’s death will be presumed to be a substitute for alimony and will negate alimony treatment.
Non-alimony treatment can be achieved simply by direction of the court or agreement of the parties in the divorce instrument to designate a payment as not includable in the gross income of the recipient or deductible by the payor. If the parties have drafted a written separation agreement, a subsequent writing electing non-alimony treatment that refers to the original instrument will be treated as a written separation instrument. Designation of temporary support payments as non-deductible and excludable must occur in the original instrument.
Although Section 71(b)(1)(B) seems to require an express designation of the payment as non-deductible, courts have determined that the term “designate” must be construed according to its dictionary meaning, and that the decree must contain a “clear, explicit and express direction” of the parties’ intention. Although language such as, “This payment will be deemed by the parties to be child support and will be treated as child support and not as alimony for income tax purposes,” would perhaps suffice, specific reference to non-deductibility and exclusion as described is preferable.
There is no requirement that the payments be made periodically. Thus, payments may be uncertain as to the fact of payment or the amount and may be made as a lump sum and still meet the requirements for alimony, subject to “recapture” rules where initial payments are larger than subsequent payments. Payments required by the divorce or separation instrument may simply be described as being in amounts reasonably necessary to support the spouse or former spouse, may not even refer to spousal support, or may be expressed merely as percentages of income without necessarily eliminating alimony treatment.
Stephen P. Comeau is the president of Equity Valuation Consultants, Inc., in Albuquerque, New Mexico. He can be reached at email@example.com.
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- This article is an abridged and edited version of one that originally appeared on page 111 of Family Law Quarterly, Spring 2004 (38:1).
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