Hard to believe, divorce in New York may get even more expensive. The tax bill proposed in the House of Representatives, last week, seeks to eliminate the deduction for alimony payments.
The new tax law attempts to eliminate what has been called a “divorce subsidy.” Under the existing law, the party paying alimony may deduct the payment and the party receiving alimony would include the payment in his/her income for tax purposes. Since the payor of spousal support would be in a higher tax bracket than the recipient, the payor’s tax deduction would be larger than the recipient’s tax liability resulting from the support payment.
In real terms, if the party was making a maintenance payment of $100 and was in the highest federal tax bracket (39%), the real cost of the maintenance payment would be $61.00. On the other hand, the recipient, in the lowest bracket (15%) would receive $100, have a tax liability of $15, and receive an actual benefit of $85.
By being able to leverage the differences in the parties’ tax rates, payments between future ex-spouses can be structured in a tax-efficient way. Absent the alimony deduction, the real cost to the payor in the above example would be the full $100 payment.
Sine the recently enacted New York maintenance guidelines were drafted with the “assumption” that the maintenance payments would be tax deductible, if the new tax law is enacted, I would anticipate that the maintenance guidelines would need to be re-formulated to ensure that they are not confiscatory in application.
Given that this tax reform bill was just introduced and is in its first iteration, we will have to keep on it to what if, any changes, are made to alimony deduction. If enacted, the tax law will become effective on January 1, 2017. So, if your divorce settlement contemplates you paying maintenance, do what you must to finalize the divorce as soon as possible– your savings could be substantial. On the other hand, if you are to receive payments, it could be beneficial if you can delay the entry of the divorce until the beginning of the year.
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