AN ALIMONY TAX CONSEQUENCE YOU NEED TO CONSIDER
November 12, 2010 § Leave a comment
Internal Revenue Code § 71(f), provides that when alimony payments last three years or less, they will not likely be treated as tax deductible, even if the divorce judgment specifically states that they are deductible.
You need to talk this over with a CPA to get some guidance before you draft your PSA or have your client testify, for example, that she wants 24 months of rehabilitative alimony. This is one of those “tax consequences” of the award that is one of the Armstrong factors that the court is supposed to consider. If you don’t put evidence in the record about it, you won’t have to worry about it because the trial judge simply won’t give it any thought. Your client may call you later and ask for some financial assistance, though, and it probably won’t be a pleasant conversation.
As with all IRS rules, I am sure that there are ways to draft an agreement to avoid the problem, and, of course, the amount of alimony can be adjusted up or down to accommodate the tax effects.
This IRS rule underlines the importance of including in your property settlement agreements a disclaimer that you have not provided any tax advice, and that the parties have been encouraged to get tax advice from a qualified expert.
PROVING TAX EFFECTS OF ALIMONY
September 2, 2010 § 3 Comments
Armstrong vs. Armstrong, 618 So.2d 1278, 1280 (Miss. 1993), sets out the factors that the trial court is supposed to consider when adjudicating whether to award alimony, and if so, the form, duration and amount.
All of the Armstrong factors are important, and failure to prove even one can doom your claim. One of those factors is “The tax consequences of the spousal support order.”
There are only two ways to establish the tax consequences: (1) Have an expert testify or offer into evidence a learned treatise; or (2) Agree with opposing counsel what they are and present the agreement to the court.
It doesn’t take a legal scholar to appreciate the advantages and disadvantages of these approaches. An expert can offer clarity, but she can be asked about so many extraneous matters on cross until the court is bewildered. A learned treatise can be precise and clear, but you still need to lay a foundation for it with an expert in most cases. In either case, experts are expensive.
By contrast, it doesn’t take much to convince opposing counsel that it is to both parties’ benefit to enter into a stipulation as to the tax consequences. That way, both parties have evdence in the record for the court to consider, and if the case is appealed, the Court of Appeals is not left scratching its collective head about why there is no proof of the tax consequences.
Back when I was practicing, several of us attorneys colluded and came up with a form for a stipulation. I believe it covers every base. It was done several years ago, and may not reflect intervening changes in the tax code, but it will at least provide a template for you to adapt to the current law.
Here is the form:
|MISSISSIPPI CASE LAW||FEDERAL INCOME TAX|
|“Lump-Sum Alimony”||“Lump-Sum Alimony”|
|Represents part of the equitable distribution of the marital estate. Is a fixed sum not subject to modification. Obligation to pay continues after the death of the payee or payer.||Represents a property settlement for income tax purposes and is not taxable by the payer or taxable to the payee. Is not alimony for income tax purposes because payments would continue, by operation of law after the payee’s death.|
|“Periodic Alimony”||“Periodic Alimony”|
|Is based on the payer’s duty to support the payee in the manner to which she or he had become accustomed, is modifiable and terminates on payee’s remarriage, death, or payer’s death.||Is tax deductible by the payer and taxable to the payee; i.e., qualifies as alimony for tax purposes. The reason periodic alimony qualifies as alimony for tax purposes is because under Mississippi law there is no liability to make any payment (in cash or property) after the death of the recipient spouse.|
|“Rehabilitative Alimony”||“Rehabilitative Alimony”|
|Is for a fixed term, but is modifiable.||If the liability to make the payments stops after the death of the recipient spouse, then rehabilitative alimony would qualify as alimony for income tax purposes.|
The payment is in cash.
The instrument does not designate the payment as not alimony.
The spouses are not members of the same household at the time the payments are made. This requirement applies only if the spouses are legally separated under a decree of divorce or separate maintenance.
There is no liability to make any payment (in cash or property) after the death of the recipient spouse.
The payment is not treated as child support.
The obvious advantage of the stipulation is that it establishes the fact without expense and both parties have the information in the record. Unfortunately, this is an element of alimony proof that is almost never addressed by the attorneys in a trial, and it could cost your client dearly.