In a recent case before the Eleventh Circuit Court of Appeals, a taxpayer was denied an alimony deduction after the court ruled that all documentation related to his divorce established he was barred from treating these payments as deductible alimony. This decision underscores how pivotal it is for divorcing spouses and their advisors to ensure that divorce decrees and settlement agreements align with federal tax requirements if they wish to claim alimony deductions (when legally permissible).
Background
For tax years prior to 2019, alimony was generally deductible by the payer and included in the recipient’s taxable income if it met certain requirements under the Internal Revenue Code (IRC). A payment would qualify as alimony if it satisfied several conditions, including that the obligation terminated upon the death of the recipient spouse, was not designated as nondeductible in the governing documents, and was made pursuant to a valid divorce or separation instrument.
However, the Tax Cuts and Jobs Act (TCJA) changed the alimony rules for divorce or separation instruments executed after December 31, 2018, generally making alimony non-deductible for the payer and non-taxable to the recipient. Despite these new rules, disputes still arise for agreements executed under the old law or modified agreements in which prior law applies.
In this Eleventh Circuit case, the taxpayer sought to deduct payments made under a divorce settlement, contending they qualified as alimony under pre-2019 law. However, in examining the language of the marital settlement agreement and accompanying documents, the court determined that they explicitly barred the taxpayer from claiming a deduction. The specific language in the decree played a decisive role, making it clear the payments were not intended to be treated as deductible alimony for tax purposes.
Why the Taxpayer Lost
- Clear Prohibition in Divorce Documents
The court pointed to the unambiguous language in the marital settlement agreement and other divorce-related paperwork, stating that the payments could not be treated as deductible by the paying spouse. This overriding stipulation effectively destroyed the taxpayer’s argument that the payments constituted alimony for tax purposes. - Failure to Satisfy Federal Requirements
Even if the documents had been silent about tax treatment, alimony must meet strict statutory conditions (e.g., not designated as nondeductible, must terminate on the recipient’s death, etc.). The Eleventh Circuit found that all evidence weighed against classifying the payments as deductible alimony. - Impact of Post-Agreement Conduct
While not emphasized as heavily, courts often look to how parties treat the payments post-divorce. Here, the taxpayer’s reliance on contradictory language failed to convince the court, because the original documents were quite explicit in prohibiting the deduction.
Tax Planning Considerations
1. Draft Agreements Carefully
Divorcing parties, along with their attorneys and CPAs, should ensure that agreements include or exclude tax-deductibility provisions in a manner consistent with the couple’s overall tax and financial objectives. Vague or contradictory language can lead to costly disputes down the road.
2. Understand the Post-2018 Law
For divorces finalized after December 31, 2018, alimony is generally no longer deductible by the payer or taxable to the recipient. Parties with pre-2019 agreements, however, may still fall under the old rules unless they explicitly adopt the new scheme when modifying their agreement. Make sure you know which rules apply to your situation.
3. Termination Upon Death Requirement
For agreements under the old law, ensuring that the payment obligation ends on the recipient’s death is a cornerstone of having the payments treated as alimony. Double-check the language in your decree or settlement agreement to verify compliance with this critical requirement.
4. Stay Aligned with State Law
Although federal law governs the tax consequences of alimony, state laws and court orders govern the creation and enforcement of divorce settlements. Make sure that provisions in your documents do not conflict with federal requirements. If there is a discrepancy, federal courts will look to the agreement’s substance and explicit language.
5. Keep Thorough Documentation
Proper documentation is essential whether you want payments to be deductible (under pre-2019 rules) or nondeductible. Keep copies of all relevant court orders, settlement agreements, bank statements showing payment transfers, and any correspondence clarifying the nature of the payments.
Conclusion
The Eleventh Circuit’s ruling serves as a reminder that divorce agreements must be precise if they are to achieve the intended federal income tax results. Whether negotiating a new settlement or modifying an existing one, careful coordination between legal and tax professionals is crucial. Missteps in drafting or misunderstanding the applicable law can mean the difference between a valid deduction and a costly denial.
If you are unsure about whether your divorce-related payments are deductible—and under which rules—consult with a qualified tax professional or attorney before finalizing any divorce instrument. Proper planning and clear language in the agreement can save significant time, stress, and money in the long run.