Will the IRS Recognize the Payments you Make as “Spousal Support” or “Child Support”?
While going through a divorce most couples and their attorneys’ attempt to amicably settle the financial matters prior to going to final trail, so the settlement can be a win/win for both parties. More and more couples are choosing to use Collaborative Law in an attempt to settle these issues, while some attorneys will suggest to their client that they attempt to reach a settlement through informal settlement meetings and negotiations or go to mediation. If there is a child or children involved, the usual main issues to be resolved are access with the child(ren) and the amount of child support that is going to be paid or what expenses for the child are necessary and who is going to pay for which expenses.
While a divorce settlement is being negotiated, no matter what process is being used, the arguments will be (1) what are the child(ren)’s true needs and (2) what will it cost to maintain the child(ren)’s life style. During the negotiations the party receiving child support will attempt to get the most child support they can, while the paying party will attempt to minimize the amount they will be contractually obligated to pay. The person obligated to pay child support will be told by the receiving party that the child support offered or the court guideline amount will not be enough to maintain the child(ren)’s life style.
During the negotiations it may be suggested that the payer make alimony payments to the payee instead of paying additional child support. The argument is usually made to the payer that they will be able to deduct the alimony payment from their gross income for tax purposes. While the argument made to the payee is that they will receive more than what the Court’s may award, due to the state guidelines. This may sounds like a win/win situation; the problem is the payer may face tax consequences in later years.
If the payer agrees to pay “Spousal Support” and the total amount or any part of the amount of spousal support to be paid, ends or is decreased when the child(ren) reaches the age of 18 or 21, leaves the household, gets married, dies, or for any other reason concerning the child, the Internal Revenue Service may deem these payments or a part of these payments as child support; at which time the payer would owe additional federal income taxes and possible penalties and interest while the payee would be owed a refund for federal income taxes paid. The same rule applies if the reduction called for is to occur at a time that can clearly be associated with such contingency.
According to the Internal Revenue Service Code, Alimony Payments §772. Divorce and Separation Instruments. Payments made under a divorce or separation instrument are includible in the gross income of the recipient and deductible by the payor if the following requirements are met: (1) the payment is in cash or its equivalent, (2) the payment is received by or on behalf of a spouse under a divorce or separation instrument, (3) the instrument does not designate the payment as not includible in gross income and not allowable as a deduction under Code Sec. 215, (4) spouses who are legally separated under a decree of divorce or separate maintenance cannot be members of the same household at the time the payment is made, (5) there is no liability to make any payment for any period after the death of the payee spouse or to make any payment (wither in cash or property) as a substitute for such payments after the death of the payee spouse, and (6) the spouses must not file joint returns with each other (Code Sec. 71 (a), (b) and (e)).
Further according to the Internal Revenue Service Code Child Support is defined as §776. Child Support. Payment made that fix an amount or a portion of the payment as child support qualify as child support for tax purposes and are not deductible by the payor or taxable to the payee (Code Sec. 71Â©). If any amount specified in the instrument is to be reduced based on a contingency set out in the instrument relating to a child “ such as attaining a specified age, dying, leaving school, or marrying “ the amount of the specified reduction is treated as child support from the outset. The same rule applies if the reduction called for by the instrument is to occur at a time that can clearly be associated with such contingency. Thus, payments that vary with the status of a child are not deductible.
Example: A divorce instrument provides that alimony payment will be reduced by $500 per month when a child reaches age 18. Under these circumstances, $500 of each payment is treated as child support.
You may think to yourself “okay we can get around this, we will just have the alimony end a month prior to or a month after the child reaches the age of 18″. The problem with that line of thought is; it states in 776. Child Support – …is to occur at a time that can clearly be associated with such contingency. Clearly associated with such contingency are “Payments that would otherwise qualify as alimony are presumed to be reduced at a time clearly associated with the happening of a contingency relating to the child only in the following situations.”
- The payments are to be reduced not more than six months before or after the date the child will reach 18, 21, or local age of majority.
- The payments are to be reduced on two or more occasions that occur not more than one year before or after a different one of the children reaches a certain age from 18 to 24. This certain age must be the same for each child, but need not be a whole number of years.
In all other situations, reductions in payment are not treated as clearly associated with the happening of a contingency relating to the child. (2010 Tax Issues of Divorce, p. 58)
If the period of alimony payments is customary in the local jurisdiction, the presumption can be overcome and the payment may be treated as alimony. Texas Family Code §8.054 – Duration of Maintenance Order clearly states that the order for maintenance may not remain in effect for more than three years after the date of the order. So if you were to enter into an agreement whereby you were going to pay your spouse alimony for three years and the alimony payments would terminate the month the child’s turns 18, the Internal Revenue Service may deem all of the alimony payments as alimony. The Internal Revenue Service could also take into consideration Texas Family Code §8.051 “ Factors in Determining Maintenance which describes the relevant factors to determine the need for Spousal Support/Alimony which to name a few includes the parties’ financial resources, the length of the marriage, the education and employment skills of the spouses, the age and employment history of the spouses, the ability to meet personal needs, custodian of a child or children who requires substantial care and personal supervision because a physical or mental disability that makes it necessary that the spouse not be employed outside the home and the lack of earning ability in the labor market, at which time the Internal Revenue Service may still deem all or part of the alimony payments as child support.
If you still have questions after reading these blog posts, please call Cathy A. Threadgill who will be able to help you with your specific situation.
All articles/blog posts are for informational purposes only they do not constitute legal advice. If you require legal advice, please contact a lawyer licensed in your state. The opinions expressed here are solely those of the author, who is not an attorney.