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Apr 28 2018

The Eight Requirements for Qualified Alimony

Part One: The Payment is in Cash

Alimony or separate maintenance payments are included in the gross income of the payee spouse and allowed as deduction from the gross income of the payor spouse.

A payment under a divorce or separation agreement executed or modified after 1984 qualifies as alimony if:

  1. Only cash payments qualify as alimony or separate maintenance payments. However, checks or money orders payable on demand meet the cash requirement.
  2. Payment in the form of property, no matter how readily convertible into cash, is not alimony.
    1. For Example: In the Lofstrom case a taxpayer could not claim an alimony deduction for a contract for deed that he transferred from his former wife because a contract for deed is a third-party debt instrument and therefore does not constitute a cash payment.
  3. Other Payments:
    1. Transfer of services
    2. Transfers of property (including a debt instrument of a third party or an annuity contract)

A quick note on lump-sum payments: A cash payment qualifies as alimony or separate maintenance whether the payor makes a series of payments or settles the obligation in one lump-sum payment.  The manner in which payments are made is irrelevant so long as they are in cash and are made under a proper divorce or separation instrument. However, the excess front loading rules must be remembered when structuring payments.

Part Two: The Payment is Received by or on Behalf of a Spouse (or Former Spouse) of the Payor

Alimony or separate maintenance payments are included in the gross income of the payee spouse and allowed as deduction from the gross income of the payor spouse.

A payment under a divorce or separation agreement executed or modified after 1984 qualifies as alimony if:

Life insurance: Premiums paid by the payor-spouse for term or whole life insurance on the payor’s life will qualify as alimony payments when made under the terms of the divorce or separation instrument to the extent that the payee-spouse in the owner of the policy. There must be a complete transfer of policy ownership pursuant to a qualifying divorce or separation instrument. A limited transfer is not sufficient. It is also not sufficient to merely designate the payee-spouse as a secondary beneficiary of the policy.

Income taxes: A payor-spouse sometimes agrees, either in a written instrument incident to a divorce or separate maintenance decree or in a separate maintenance agreement, to reimburse the payee-spouse for income taxes due on the alimony payments. If the payor-spouse agrees to pay the additional tax for which the payee-spouse would be liable on the reimbursement of the taxes, the additional tax payment also constitutes taxable alimony.

Payments on Property: Payments by the payor-spouse on property used by the payee-spouse may or may not be deductible depending on the facts. Payments to maintain property owned by the payor-spouse but used by the payee-spouse are not payments made on behalf of the payee-spouse, even if they are made under the terms of the divorce or separation instrument. Therefore, mortgage payments or real estate taxes on a house owned by the payor-spouse are not deductible as alimony by the payor-spouse.  If the property is owned by the payee-spouse, the payments by the payor-spouse are deductible as alimony if made under a divorce or separate maintenance decree.

Part Three: The Payment is made under a divorce or a separation instrument

Alimony or separate maintenance payments are included in the gross income of the payee spouse and allowed as deduction from the gross income of the payor spouse.

A payment under a divorce or separation agreement executed or modified after 1984 qualifies as alimony if:

  • A divorce or separation instrument is a decree of divorce or separate maintenance, or a written instrument incident to the decree; a written separation agreement; or a decree requiring a spouse to make payments for the support or maintenance of the other spouse, including a temporary support order.
  • Voluntary Payments: These are not deductible by the payor-spouse. A voluntary payment is one that the payor-spouse has no legal obligation to make under a decree or instrument of divorce or separation. A separation agreement is the best assurance that alimony payments will be deductible by the payor and not viewed as voluntary. Absent the temporary alimony order or a separation agreement, these payments are viewed as voluntary and non-deductible.
  • Written Separation agreement: For a writing to qualify as a written separation agreement for purposes of alimony, it must represent an “agreement”. It won’t qualify if it indicates that parties are in dispute or have otherwise put off making a decision on the amount of support payments.
  • Amended Agreements: Amended agreements are effective for federal income tax purposes only for future payments. Amendments are given retroactive effect for tax purposes only if they correct mistakes in decrees or separation agreements and the purpose of the correction is to reflect the parties’ intent in the original decree or agreement. An amendment is not given retroactive effect for tax purposes if it attempts to change the rights of the parties or the legal status of the payments under the original decree or separation agreement.

Part Four: The Spouses are legally separated under a decree of divorce or separate maintenance, and are therefore not members of the same household when the payment is made.

Alimony or separate maintenance payments are included in the gross income of the payee spouse and allowed as deduction from the gross income of the payor spouse.

A payment under a divorce or separation agreement executed or modified after 1984 qualifies as alimony if:

  • Temporary Order: Payments under a temporary support order or a written separation agreement are qualifying payments regardless of the spouses’ living arrangements

  • Other Situations: For this purpose, a dwelling unit formerly shared by both spouses is not considered two separate households even if the spouses physically separate themselves within the dwelling unit. The spouses will not be treated as members of the same household if one spouse is preparing to depart from the household of the other spouse, and does depart not more than one month after the date the payment is made.

Part Five: The instrument does not state that the obligation to make the payments continues after the payee-spouse’s death.

Alimony or separate maintenance payments are included in the gross income of the payee spouse and allowed as deduction from the gross income of the payor spouse.

A payment under a divorce or separation agreement executed or modified after 1984 qualifies as alimony if:

  • For alimony payments to be deductible, the payor-spouse must not be required to continue payments after the death of the payee-spouse; or make a payment (in cash or property) as a substitution for payment after the death of the payee-spouse.
  • Agreements: The absence of an express statement in the final divorce decree terminating alimony at the recipient’s death, though not required by statute or regulations, may open the door property settlement treatment of the payments. However, Minnesota State law covers this issue by stating that “unless otherwise agreed in writing or expressly provided in the decree, the obligation to pay future maintenance is terminated upon the death of either party or the marriage of the party receiving maintenance.
  • Death of Payor-Spouse: When an agreement or decree requires the estate of the payor-spouse to continue to make payments to the surviving payee-spouse, the estate cannot take a deduction for the payments under the alimony rules. The deduction is allowed only to the obligor spouse and not the estate or any other person who pays the alimony obligation. However, the estate can deduct the payments under the income tax rules for estates and trusts. The payments by the estate, whether paid out of its income or capital, are included in the surviving spouse’s gross income.

Part Six: The divorce or separation instrument does not designate the payment as not includable in the payee-spouse’s gross income and nondeductible by the payor-spouse as alimony.

Alimony or separate maintenance payments are included in the gross income of the payee spouse and allowed as deduction from the gross income of the payor spouse.

A payment under a divorce or separation agreement executed or modified after 1984 qualifies as alimony if:

  • A couple may designate in their divorce or separation instrument that payments otherwise qualifying as alimony or separate maintenance payments should not be treated as alimony or separate maintenance payments under the tax laws. These payments are not deductible by the payor-spouse and not included in the income of the payee-spouse
  • Agreements: This designation requires clear and explicit direction. The legal instrument must expressly state the tax treatment of the payments in order to achieve these results
  • Benefit: While uncommon, different situations can arise where this designation is helpful. Also, this provision allows the payor to make an after tax lump sum payment in order to “buy-out” of spousal maintenance.

Some examples: when the payor-spouse is receiving non-taxable income (disability, tax-exempt interest, etc.) or when the payor-spouse has a net operating loss that is being carried forward each year. In some cases the parties may agree to categorize property settlement payments as non-taxable spousal maintenance in order to avoid a potential discharge due to bankruptcy of the payor.

Part Seven: The payment is not fixed as child support.

Alimony or separate maintenance payments are included in the gross income of the payee spouse and allowed as deduction from the gross income of the payor spouse.

A payment under a divorce or separation agreement executed or modified after 1984 qualifies as alimony if:

  • An amount is fixed as payable for the support of the payor-spouse’s child under a divorce or separation instrument if the instrument specifically designates an amount of money or a part of the payment as payable for child support
  • Child related contingency: A portion of a payment may constitute child support even when the instrument does not specifically designate it as fixed for that purpose. A payment under a divorce or separation instrument is treated as fixed if the payment is to be reduced on the happening of certain child related contingencies
  • Event contingency: A specified contingency relates to a child if it depends on any event relating to that child, regardless of whether that event is certain or likely to occur.

Examples include:

  1. Attaining a specified age, marrying, dying, leaving school
  2. Attaining a specified income level, leaving the spouse’s household or gaining employment
  • Time contingency: A payment is treated as reduced on the happening of a child-related contingency, even if not specifically stated to be tied to the event in the instrument, if it is reduced at a time clearly associated with the happening of a contingency relating to a child of the payor spouse. Payments that would otherwise qualify as alimony or separate maintenance payments are presumed to be reduced at a time clearly associated with the happening of a contingency relating to a child of the payor-spouse.
  1. When the payments are to be reduced not more than six months before or after the date the child is to attain the age of 18,21, or local age of majority; or
  2. When the payments are to be reduced on two or more occasions that occur not more than one year before or after a different child of that payor-spouse attains a certain age between the ages of 18 and 24, inclusive. This certain age must be the same for each child, but need not be a whole number of years.
  • Rebuttable presumption: The presumption in the two situations described above may be rebutted by a showing, either by the Service or by taxpayers, that the spouses decided the time of the payment reduction independently of any child-related contingencies.

Two such examples come to mind.

  1. The first example would be a situation where the payee-spouse is moving to a smaller home after the children are emancipated. The smaller home may reduce the payee-spouse’s expenses which could reduce the amount of spousal maintenance.
  2. The second example would be a situation where the payee-spouse increases their employment income after the children are emancipated which could reduce the amount of spousal maintenance.

Part Eight: The spouses do not file joint returns with each other

Alimony or separate maintenance payments are included in the gross income of the payee spouse and allowed as deduction from the gross income of the payor spouse.

A payment under a divorce or separation agreement executed or modified after 1984 qualifies as alimony if: The spouses do not file joint returns with each other.

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