Tax reform is often a hot topic in the media. Media hosts and guests debate on how these proposals will impact the population. Who will pay less, who will pay more? One debate currently circulating throughout news stories involves the potential for the current proposal to impact those who are going through a divorce.
What are the tax implications of divorce?
Many tax issues can arise during divorce. Many of these tax consequences affect the property division portion of the proceeding, and need to be carefully addressed in any agreements or court orders. However, two additional areas that couples often need to address during divorce involve the payment and receipt of child support and spousal support, also referred to as alimony.
How do taxes apply to child support and alimony under current law?
Child support is not taxed or considered taxable income to the parent who receives it. This is based on the belief that parents are required to provide financial support for their children.
In contrast, spousal support payments are treated as taxable income to the spouse receiving these payments under current tax laws, and the spouse paying spousal support gets to take the payments as a tax deduction. Since the paying spouse benefits from the deduction, parties often take this into account when negotiating the amount of spousal support. Additionally, since a spouse receiving support is taxed on the amount, the tax consequences also have to be taken into account in determining the actual net support that spouse will receive and what amount should be set aside to cover estimated tax consequences.
How would the tax reform proposal change this?
It does not appear that the proposal would impact the current law regarding child support. It would, however, impact the application of tax obligations to spousal support payments.
The proposal essentially removes the tax impact on these payments. Those who make alimony payments would no longer be able to deduct the spousal support payments, thus lowering their overall tax obligations. Those who receive these payments would no longer have to include the amount as a source of income, thus removing their tax obligations as a result of the spousal support payment.
What does this mean for those going through a divorce?
This proposal provides an example of the importance of being aware of tax laws and tax implications related to the divorce process. It is important for those who are in the process of a divorce to know how these laws will impact their divorce settlement agreement and for the agreement to address and take into account tax consequences.
As such, it is a reminder for those who are going through a divorce to seek legal counsel to help better ensure their interests are protected during the divorce proceeding.