In her 1968 hit song, “D-I-V-O-R-C-E,” Tammy Wynette spelled out the gut-wrenching word many couples dread. Now, amid a tax change to the support known as alimony, couples likely will fear divorce even more.
New alimony tax rules, included in the Tax Cuts and Jobs Act, apply to divorce or separation agreements executed after Dec. 31, 2018. Because the changes can dramatically affect finances, experts say the new rules intensify the divorce process. They also raise the specter that at least one soon-to-be-ex-spouse could take a big financial hit.
Starting Jan. 1, alimony payers will no longer be able to deduct this outlay from their federal income tax. That means many will want to lock in alimony terms this year. That way, they will be grandfathered into existing rules, allowing them to deduct alimony this year and in the future.
In addition, alimony recipients will no longer owe federal tax on this support. As a result, many will insist on waiting until next year to finalize divorce terms, believing that this will benefit them financially. But the overall net impact may hurt them financially rather than benefit them.
‘This is huge,” said Renee Senes, a certified divorce financial analyst and author of “Money & Divorce, Costly Mistakes You Don’t Want to Make.” She added, “The new rules are a significant change in the way alimony has been treated.”
IBD’S TAKE: Learn which of your spouse’s assets you can lay claim to, in this IBD report.
Divorce: How To Finalize
A recent survey of members of the American Academy of Matrimonial Lawyers found 95% of respondents expect the new alimony rules will change how divorces are settled. And 64% expect the change will make divorces more acrimonious.
The law change has the potential to cost a lot of people big bucks. In the 2015 tax year — the latest year for which the IRS has data — 598,888 taxpayers claimed the alimony deduction (on Form 1040). Their deductions totaled more than $12.3 billion.
That’s up from more than 597,000 taxpayers who claimed the alimony deduction on their 2010 federal returns, for a total of $10.4 billion.
Already, anxiety has been rising this year among prospective alimony payers (typically men) and recipients (usually women), suggests Ginita Wall, director of Women’s Institute for Financial Education (WIFE). In divorce workshops, “it’s become more of a life-or-death issue, for both men and women,” says Wall, whose organization sponsors Second Saturday workshops on divorce in 120 locations nationally.
For alimony payers, getting the tax deduction is very important, says David Hryck, tax specialist and partner in the law firm of Reed Smith. The deduction dampens the financial impact of alimony on payers. The new rules removing it could hit payers three ways: Not only will they lose the deduction, but without it some may be pushed into a higher tax bracket. And they’ll still have to pay the spousal support with fewer available dollars.
For those reasons, many alimony payers will want to settle a divorce before the end of this year. Doing that this year will allow them to deduct alimony in future years as well, using existing rules rather than the new rules.
Alimony recipients have the opposite incentive. On the surface, many of them will be motivated to wait until next year when they will no longer owe federal income tax on alimony.
But because husbands will have more reasons to lower payments in settlements after this year, women may not come out ahead financially by delaying the divorce.
And the size of any cuts in payments could exceed the savings from no longer owing alimony tax, since many women would be in a low tax bracket due to other changes in the Tax Cuts and Jobs Act, says attorney Madeline Marzano-Lesnevich. Bottom line: in many cases, the alimony tax change will “hurt women more than men,” says Marzano-Lesnevich, who is president of the American Academy of Matrimonial Lawyers.
How To Reduce Conflict
How can soon-to-be-ex-spouses lessen any alimony tussles? Experts offer advice for those now considering or going through a divorce:
- Act now. Both parties should strive to get a divorce settled this year, says Rachel Gottlieb, certified divorce financial analyst at UBS. If the divorce isn’t executed this year, the new alimony tax laws will apply, and negotiations may have to start from square one. If that happens, attorneys’ fees and other costs of the divorce would likely rise. And it may be difficult to predict which spouse will most benefit financially.
- Seek help. Divorcing couples should work out their finances together. But if anger and other emotions prevent this, they should seek help from an intermediary, such as financial planner, a broker or friend, to avoid slowing down the divorce process, Marzano-Lesnevich says. Mediators can also helpcouples bridge their differences.
- Consider asset trades. If alimony is a sticking point, payers could consider offering an asset transfer, such as a lump sum payment, as an alternative to alimony. Among the attractions of this option: The value of asset transfer is not taxable to either party in the divorce. However, this option applies only to those who can afford a large up-front payment, says Cheryl Glazer, president of the Association of Divorce Financial Planners.
- Use appropriate tools. Calculators are available online to help roughly gauge how much alimony could be expected or awarded in a particular state. But be cautious, says Senes. Most alimony calculators haven’t yet been adjusted to account for the coming tax law change.