By: John P. Paone, Jr., Esq. and John P. Paone, III, Esq.*
On January 1, 2019, new federal tax laws were ushered in, as part of the Tax Cuts & Jobs Act of 2017, which have revolutionized the financial landscape for divorcing parties. The most dramatic change is the elimination of the federal income tax deduction for individuals who pay alimony. This also means that persons receiving alimony will no longer have to declare these payments as income – thereby making the receipt of alimony tax free. It is important to note that this new change in tax law only affects alimony awards entered after December 31, 2018.
The result of alimony now being non-tax deductible is that ultimately more tax dollars are being clawed back by the federal government. This is because the spouse who pays alimony will not be able to claim alimony as a tax deduction and will likely pay taxes in a higher income tax bracket compared to the spouse who receives alimony. The net result of this is that there will be less available after tax dollars between the households in order to meet financial obligations such as alimony, child support, and college.
So what does the elimination of the alimony tax deduction mean for divorced parties in actual dollars? The following example will demonstrate the impact of the change in the tax law: Under the old tax laws, a spouse who was required to pay alimony in the amount of $1,000.00 per month and was in the 35% tax bracket in effect only paid $650.00 per month after taxes ($1,000.00 – $350.00 tax deduction = $650.00 net payment). The spouse who was the recipient of the alimony and was in a 20% tax bracket would only owe $200.00 per month in taxes leaving the recipient of alimony with $800.00 in net dollars ($1,000.00 alimony – $200.00 tax = $800.00 net payment). Therefore, through the benefit of an alimony tax deduction, the payor paid $650.00 in net tax dollars while the recipient received $800.00 in net tax dollars. The difference of $150.00 was effectively subsidized by the federal government. The loss of this “divorce subsidy” will inescapably mean that alimony payors will pay more and alimony recipients will receive less in future alimony awards.
Although alimony payors will no longer be able to deduct their payment of alimony on their federal income tax returns, they will still be able to claim alimony as a deduction for state income tax purposes in New Jersey. Similarly, spouses who receive alimony will still be required to report alimony as income on their New Jersey State Gross Income Tax Returns. This is because New Jersey law continues to provide for the deductibility (and therefore taxability) of alimony payments. It remains to be seen, however, whether over time New Jersey will adopt the provisions regarding alimony that have been enacted under the Tax Cuts & Jobs Act of 2017, to make the tax treatment of alimony in New Jersey consistent with federal law.
Divorcing spouses should also understand that while there may be less money for support between the households, there remains no exact formula or percentage for how an alimony obligation is calculated. Family courts are required to review the statutory criteria which references 14 factors that must be considered in rendering an alimony award. Among these factors (such as actual need and the ability of the parties to pay) includes “the tax treatment and consequences to both parties of any alimony award.” Therefore, even in the new world of non-tax-deductible alimony, the court must continue to examine what each party will be left with in after-tax dollars in order to calculate a proper award of alimony.
It is imperative that spouses going through a divorce who will either be paying or receiving alimony be aware of the new federal tax law and inevitably, the impact it will have on their case. If you are going through a divorce, you should confer with an experienced family law practitioner regarding the new tax change.
*John P. Paone, Jr., Esq. and John P. Paone, III, Esq. are divorce and family law attorneys with the Law Offices of Paone, Zaleski & Murphy, with offices in Red Bank and Woodbridge.
