Not all divorces involve alimony. If the divorce decree or separation agreement is to include an alimony provision, certain tax rules must be observed. If the payments are really tax deductible alimony for the person paying and taxable income for the person receiving the payments, certain rules apply. An alimony or separate maintenance payment has to meet four requirements if the payment is to be deductible and taxable.
The payment must be made under a divorce or separation agreement.
The payment must be designated as alimony that is deductible by the paying person under code section 215 and is taxable to the recipient under code section 71.
The legally separated spouses under a decree of divorce or separate maintenance must not be members of the same household when the payments are made.
The obligation to pay must end at the death of the recipient spouse.
A recent tax case, Crabtree, TC Memo 2015-163TC Memo 2015-163 showed the importance of being sure the requirements are all met.
Esther Crabtree and Dr. Donald A. Girard entered into a divorce agreement in Delaware. The divorce agreement was entered as an order by the Delaware Family Court two days later. It had a provision that Dr. Girard would pay an unallocated alimony/child support payment of $5,232 each month as long as Mrs. Girard did not remarry or cohabitate. However the agreement (decree) was silent as to whether the payments would stop if either were to die before eight years passed. Dr. Girard paid the scheduled payments each month in 2010, a total of $62,784 and he claimed the income tax deduction for that as alimony.
Mrs. Crabtree did not report the payments as taxable alimony payments on her return. IRS audited her and said she did not pay her income tax correctly. She asked the Tax Court for a decision that the payments did not meet the requirements to be taxable income to her.
Both IRS and Mrs. Crabtree agreed three of the four requirements were met. The Tax Court found the agreement (decree) did not terminate upon Mrs. Crabtree’s death. The payments would stop if she remarried or cohabitated but it did not say the payments stopped if she died. The Tax Court looked at the Delaware divorce law and found the provision that the obligation to make payments after death ends unless the parties agreed otherwise in writing. The Tax Court found that provision to be ambiguous as to the divorce decree. The Court held for Mrs. Crabtree-she did not receive taxable income as alimony payments. IRS was wrong (again) and the return she filed was correct as to the payments from Dr. Girard were not taxable income to her.
If you are planning a divorce, it is important to have an attorney look at the agreement.
Did you hear? “Money buys everything except love, personality, freedom, immortality, silence, peace,” by Carl Sandburg
John Bullis is a certified public accountant, personal financial specialist and certified senior adviser who has served Carson City for 45 years. He is founder emeritus of Bullis and Company CPAs.