Does Alimony Still Make Sense Given the 2018 Tax Law Change?

 Posted on February 27, 2018 in Divorce

Spousal support, also known as alimony, presents some of the toughest questions in a divorce settlement. Should one spouse have to make monthly support payments to the other after the divorce, and if so, in what amount and for how long?

How Alimony is Determined in Michigan

Under Michigan state law, there is no given formula for calculating the amount and term of spousal support payments. Instead, the spouses and their attorneys may either decide this amongst themselves or leave it to a judge to decide.

By law, a Michigan judge may award spousal support when the assets awarded to one spouse in the divorce settlement are “insufficient for the suitable support and maintenance” of that individual and any children in custody. The amount to be paid will be “as the court considers just and reasonable” after considering all the circumstances of the case, including each spouse’s current income and earning potential.

How Federal Tax Law Affects Alimony Decisions

Recent changes in the federal tax code are likely to change alimony awards both nationwide and in Michigan in particular.

For any divorce agreements completed by the end of 2018, the recipient must pay federal income tax on the alimony received. The payer gets to deduct the alimony payments from his or her taxable income. That tax deduction has made agreeing to alimony less painful for the payer.

This tax law was typically beneficial to the parties overall. The payer generally had a much higher income and therefore paid a higher tax rate. So, the tax deduction for alimony saved the payer a significant amount on his or her total tax bill. The recipient paid income tax on the alimony at his or her lower tax rate.

However, for any divorce agreements completed January 1, 2019, or later, the payer no longer gets a tax deduction for alimony. The payer pays all the income taxes, and the alimony is tax-free to the recipient. This is going to make payment of alimony much more painful for the payer, while benefiting the recipient. Overall, more federal income tax gets paid.

Let us look at an example.​ ​Assume that the payer, Chris, has an annual income of $520,000 and pays $100,000 in alimony to Pat. Under the new tax law, Chris must pay the income tax on the entire $520,000, with a marginal income tax rate of 39.6 percent. So, in addition to paying the $100,000 in alimony, Chris would also pay $39,600​ in federal income tax.

In contrast, under the old law, recipient Pat would pay the income tax on the $100,000 alimony. Assuming Pat’s only income was the alimony, Pat would pay no more than $21,000​ in taxes on that same $100,000. (Example is based on 2017 tax rates and ignores any possible tax deductions to keep it simple.)

How the New Tax Law Affects You

If you are likely to be a payer of alimony, and you want that alimony to be tax deductible for you, you will want to get your divorce agreement signed by December 31, 2018.

If you are likely to be the recipient of alimony payments, you may be better off to have your divorce settled on or after January 1, 2019, because then any alimony payments will be tax-free to you.

Whichever side you might be on, do consider the collaborative divorce approach that involves a neutral financial and tax expert. This objective expert will work with you and your attorneys to ensure that your divorce agreement takes all tax law and other financial issues into account to design a settlement that is fair for both parties.

Divorce Attorneys in Livonia and Farmington Hills

Before proceeding with any divorce settlement, it is critical to consult an experienced Farmington Hills divorce attorney. With nearly five decades of combined family law experience, Elkouri Heath, PLC will work hard to protect your rights and ensure that you receive an equitable settlement. For a free consultation, call 248-344-9700.

Sources:

http://www.legislature.mi.gov/(S(yk32vnzzpczb4fqdrpgi4hsn))/mileg.aspx?page=getobject&objectname=mcl-552-23

https://www.marketwatch.com/story/new-tax-law-eliminates-alimony-deductions-but-not-for-everybody-2018-01-23

https://taxfoundation.org/2017-tax-brackets/