Most divorces involve a division of property between the spouses. If there are children from the marriage, the parent not granted custody usually must pay monthly child support. In addition, one of the spouses may be granted monthly alimony or spousal support. The resulting tax implications differ, depending on whether such payments are characterized as child support or alimony.
In general, for federal income tax purposes, alimony is “deductible” from the income of the paying spouse and is includable in the taxable income of the recipient spouse. Child support is treated exactly the opposite: it is not deductible by the payor and is not included in the income of the recipient spouse. Property settlement transfers between spouses in a divorce are usually not taxable events.
Mischaracterization of Payments as Alimony
Since amounts paid as alimony are deductible from income by the one paying, there is an incentive to maximize the amount of payments deemed alimony, as opposed to nondeductible property distributions and child support payments. The recipient spouse may be in a much lower taxable bracket and agree to the plan. However, the IRS objects to attempts to mischaracterize child support or property divisions as alimony, because of the tax effects.
The Alimony “Recapture” Rule
Federal tax laws list requirements that must be met for payments to be considered alimony. However, even when these requirements are met, it is possible that the alimony payments will be subject to “recapture” for income tax purposes. Alimony payments that decrease or terminate during the first three calendar years may be subject to recapture, which means that the payor spouse may have to include as income in the third year a portion of payments deducted as “alimony” during the first years.
The three-year period starts with the first payment of alimony under a decree of divorce or separate maintenance, or a written separation agreement. The second and third years are the next calendar years, whether or not alimony payments are made during these years. Only alimony paid in the first two years that is considered “excess alimony” is subject to recapture; these provisions do not apply after the third year.
Application of the Alimony Recapture Rule
The recapture rule may be applied to require the payor spouse to include as income “excess alimony,” calculated as follows:
- The amount by which the alimony paid in the second year exceeds the amount paid in the third year by more than $15,000
- The amount by which alimony in the first year exceeds the average of alimony paid in the second and third years – this average must be calculated by adding the alimony in the second year (reduced by the excess payment for the second year, as calculated above), the amount of alimony in the third year, plus $15,000, and dividing by two
The recapture rules are complex, and the calculation is commonly done by an accountant (hopefully before the divorce decree). Such rules are best illustrated through an example:
A divorce decree requires alimony payments by the husband of $50,000 the first year, $40,000 the second year and $20,000 thereafter for ten years. The payment in year two exceeds the payment in year three by $20,000, so under the rule, $5,000 of it is “excess alimony.” The average of the second and third years, calculated as set forth above, would be ($40,000 – $5,000) + $20,000 + $15,000 = $70,000 divided by two = $35,000. The “excess alimony” paid in year one is thus $5,000. The total excess alimony is $10,000, which must be added to the payor spouse’s income in year three.
Exceptions to the Recapture Rule
The following are not included for purposes of calculating “excess alimony:”
- Payments that cease due to the death or remarriage of a spouse during the initial three-year period
- Payments made under a temporary support order
- Payments for a period of at least three years made pursuant to a continuing liability to pay a fixed portion of income from a business or property, or from compensation for employment or self-employment