Changes to Tax Deductions of Alimony Payments Are Coming

The Tax Cuts and Jobs Act of 2017 (TCJA), enacted by Congress last December, has created jobs for many individuals. It has also created additional work related to the issue of alimony for family law attorneys.

As interpreted under our New Jersey divorce statute, one spouse may be obligated to support the other spouse by the payment of alimony. The payments made by one spouse to the other which met the Internal Revenue Code definition of alimony would be deductible by the payer on his or her federal income tax return and included as taxable income to the recipient. This remains the case for alimony agreements or settlements signed prior to the end of 2018.

However, beginning in 2019, Congress has changed the rules. Payments made pursuant to an agreement or Court Order reached or entered after December 31, 2018 will no longer be deductible by the payer nor will they need to be claimed as income by the recipient. This major change in the tax law will not change the tax treatment of any payments made pursuant to an agreement which was entered prior to the end of calendar 2018.

Given this change litigants and family law attorneys are determining on a case-by-case basis, where alimony is an issue, whether it is beneficial to enter into an agreement and finalize their divorce prior to the end of this year. As 2018 grows to a close, prior proposals made to settle the issue of alimony may be modified or withdrawn.

The “TCJA” may also affect the interpretation of prenuptial agreements signed years ago. Many such agreements contain provisions for the payment of alimony in the event of a divorce. If the agreed-upon support payments were listed as being deductible to the payer if such a divorce were to occur, does the change in tax law provide an opportunity for challenges to the agreement? The agreement must be deemed fair and equitable at the time it is to be enforced. This change in the deductibility of such payments could create the opportunity to challenge the agreement. A high-income divorcing spouse could be obligated to pay twice the post-tax costs in support due to the change in the law.

In my practice I have seen the use of prenuptial agreements increase dramatically over the last decade. This is particularly so among individuals entering second marriages. Those individuals are generally well-established in the workforce and have higher incomes where the deductibility of any potential support payments can have a dramatic effect upon them. How the Courts and the IRS interpret the change will be crucial.