How to determine whether payment of money to a spouse post-divorce qualifies as alimony under Internal Revenue Code §71 for tax-deduction purposes – Part 1.
Christopher Melcher provides a useful article on the tax-deductibility of alimony in this month’s Family Law Journal of the American Bar Association: Make the Tax Code Your Friend – and Alimony More Palatable. He points to eight simply rules to determine if payment of money to a former spouse post-divorce qualifies as tax-deductible alimony:
Rule 0: The label doesn’t usually matter.
Whether or not the payment is called “alimony” in the court order or something else does not affect its treatment as alimony under the tax laws. Likewise, a payment labeled as “alimony” may not qualify if the rules are not met.
One exception to this rule is that payments labeled as “child support” cannot be considered alimony.
Rule 1: The payment must be made in “cash”.
Alimony cannot be paid in exchange for services, property, an I.O.U., or for the use of property. Treas. Reg. §1.71-1T. Of course, checks or other methods of paying “cash” are accepted.
Rule 2: The payment must be received by or on behalf of a spouse or former spouse.
The payment does not have to be made directly to the spouse or former spouse. It can be paid to a third party for the benefit of the spouse. For example, cash payment of rent, mortgage, tax, or tuition liabilities of the spouse or former spouse made under the terms of the divorce decree will qualify as alimony. Treas. Reg. §1.7-1T, Q&A, A-6.
Melcher says the tricky part of these arrangements is to make sure that the payor does not benefit from the payment; otherwise the payment will not qualify as alimony. Sometimes making payments on behalf of the spouse, such as mortgage payments, can implicate more than one set of tax rules and create some confusion. If the house and the mortgage are in the name of the payor, the payor cannot take an alimony deduction for paying the mortgage even if the payee has exclusive possession. “Any payments to maintain property owned by the payor spouse and used by the payee spouse (including mortgage payments, real estate taxes, and insurance premiums) are not payments on behalf of a spouse, even if those payments are made pursuant to the terms of the divorce or separation instruments. Treas. Reg. §1.71-1T; Q&A A-6.
Simple enough: the payor is responsible for making those payments as the owner of the property or debtor under the mortgage and, thus, payment of those obligations cannot be treated as alimony to his or her spouse or former spouse.
On the other hand, where the payee owns the house and the mortgage is in his or her name. Since the alimony recipient is solely obligated for paying the mortgage, the parties can agree that his or her alimony will be paid to the mortgage company. The payee spouse can take an itemized deduction for the mortgage interest and property taxes paid, since these were made with his or her alimony money. IRS Publ. 504, p. 13 (2008).
If the spouses jointly own the residence and mortgage and the alimony order says that one spouse will pay the mortgage as alimony to the other spouse, the IRS will only recognize one-half of the payment as alimony. IRS Publ. 504, p. 12 (2008).
For payments of property taxes and home insurance in the form of alimony on a residence held in joint tenancy, none of the property tax or insurance payments qualify as alimony, but the payor spouse can take an itemized deduction for all of the property taxes. IRS Publ. 504, p. 12 Table 5 (2008).
Sometimes, spouses agree to require life insurance as a form of security for the loss of alimony if the payor dies. If the divorce agreement requires the payor spouse to maintain life insurance for the supported spouse as security for alimony, the premiums are deductible if the supported spouse is both the owner and irrevocable beneficiary of the policy and has all incidents of ownership under the policy. Stevens v. Comm’r, (1971) 439 F.2d 69; Rev. Rul. 57-125; Rev. Rul. 70-218; Treas. Reg. §1.71-1T, Q&A, A-6.
For an overview of Texas alimony laws, please see our website O’Neil & Attorneys.
For additional information about alimony and maintenance in Texas, see the following blog posts here on the Dallas Texas Divorce Law Blog: