As the summer nears its conclusion, those individuals that previously applied for an extension to file their 2019 individual income tax returns are becoming increasingly aware of the impending October 15th deadline. Couples that divorced after the Tax Cuts and Jobs Act (TCJA) of 2017 are already cognizant of the changes affecting alimony.
Before the TCJA, alimony received was taxable to the recipient, and deducted, dollar for dollar, by the payer in the determination of their adjusted gross income. Thus, deductibility of alimony historically provided specific incentives in negotiating a divorce settlement.
For couples divorcing after the TCJA, the payment and receipt of alimony is neither deductible nor taxable. In many instances, this change has created a significant tax burden for those paying alimony.
While this change has been effective now for several years, our firm still get requests from attorneys to quantify the lost tax benefit resulting from the change in the tax law. Today, we revisit how this change affects those paying alimony.
Let us take for example a taxpayer (filing single and utilizing the standard deduction) who earns a salary of $75,000 per year and pays annual alimony of $21,000. As the following table illustrates, the taxpayer’s income tax liability will increase by $6,700 or 71.3% resulting from of the tax law change.
| OLD LAW | NEW LAW | |
| Wages | $ 75,000 | $ 75,000 |
| Alimony | 21,000 | 0 |
| Adjusted Gross Income | 54,000 | 75,000 |
| Standard Deduction | ||
| Filing Single | ||
| Taxable Income | $ 41,800 | $ 62,800 |
| Federal Taxes | 5,100 | 9,700 |
| NY State Taxes | 2,600 | 3,900 |
| NY City Taxes | 1,700 | 2,500 |
| Total Taxes (Rounded) | 9,400 | 16,100 |
| Difference $ | $ 6,700 | |
| Difference % | 71.3 % |
The effect of the tax law change is also significant for higher earners. For example, a taxpayer who earns a salary of $500,000 and pays $58,000 in alimony will see a difference of $27,000 or 15.4%.
| OLD LAW | NEW LAW | |
| Wages | $ 500,000 | $ 500,000 |
| Alimony | 58,000 | 0 |
| Adjusted Gross Income | 442,000 | 500,000 |
| Standard Deduction | ||
| Filing Single | ||
| Taxable Income | $ 429,800 | $ 487,800 |
| Federal Taxes | 128,000 | 149,000 |
| NY State Taxes | 30,000 | 34,000 |
| NY City Taxes | 17,000 | 19,000 |
| Total Taxes (Rounded) | 175,000 | 202,000 |
| Difference $ | $ 27,000 | |
| Difference % | 15.4 % |
You may recall the rush to finalize divorces before the effective date of TCJA. Those taxpayers can still deduct alimony paid, and the recipient must report it as income.
What we can conclude from these examples is that that despite the changes enacted by TCJA, matrimonial attorneys, their clients, and even Judges still look at the tax effect of alimony when considering the parameters of a divorce settlement. However, this is not the only income tax issue that divorcing couples should consider. There are many others that you should take into account.
Please keep an eye out for our future articles addressing these critical issues.