Divorce is a life-changing event, but the further headaches and stress from tax complications is something that everyone wants to minimize. At MiklosCPA, a California-based CPA firm, we understand that there are many important issues to consider which can come out of a decree or a settlement agreement. Two costs that that may often get mistaken interchangeably are alimony and child support.
Alimony payments
First, it is important to know what is considered alimony. Alimony is a court-ordered payment from one spouse to another for financial support. For example, a court orders a payment from one spouse to the other for $500 a month as a part of a divorce decree. If there is no court decree, and a spouse simply provides $500 a month to the other spouse during divorce, this is NOT alimony, but a voluntary payment.
Alimony can make a huge difference on your tax bill depending if you are the payer or the recipient. What’s the difference and what should you do?
Alimony payments are deductible to the payer and are included in the gross income for the former spouse. For example:
You pay $15,000 a year in alimony to your former spouse to support him/her living in Encino. You REDUCE your gross income by $15,000. In effect, you don’t pay taxes on that money. Instead, your ex-spouse will pay that tax bill.
If you receive $15,000 in alimony for maintenance of a household in Encino, you ADD it to your gross income and pay that tax burden.
Child support payments
Child support, unlike alimony, is NOT deducted from your gross income and is not included in gross income of the ex-spouse. If you pay $15,000 in child support, you will pay taxes on that money before transferring it to your former spouse. Your former spouse will not pay taxes on the money received from you.
Any payment that is contingent upon a child’s event will be considered child support. For example, a payment that continues until a child turns 18 will be considered child support, even if it is not explicitly defined as such. It can be as simple as a wording of “$300 a month for clothing for John Jr living with mom in Arcadia”. As you complete your divorce settlement, it is important to make sure to pay special attention to the distinction between alimony and child support.
Determining Alimony Payments
Understanding what counts as alimony can be a complicated process. California is a community property state, which means, some things are considered alimony, others are not, depending on the final division of assets and property at the time of the divorce. Cash payments going to a third party and not your former spouse can even be considered alimony, even though your spouse did not receive it. For example:
You have a court-ordered mortgage payments for a house in San Marino owned by the ex-spouse, these are considered alimony payments. If the house is jointly owned and used by the ex-spouse and you, half of your mortgage payments may be considered alimony payments. If you own the house, then none of the payment will be considered alimony.
Keeping these tips in mind for alimony and child support payments and how they are classified can help you manage your annual tax filings and ultimately get a better tax return.
Beginning in 2019, alimony payments will no longer be deductible by the payer on their federal tax return, and the person receiving the payments will not pay taxes on the money received. The new rules will only apply to divorce settlements taking place after 2018, and the current rules will remain for settlements taking place prior January 1, 2019.
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