Addressing potential tax issues in your negotiations can avoid problems in the future. For example, many lawyers believe that alimony payments are always tax-deductible to the person paying and taxable as income to the recipient. This is not the case. In order to qualify for the taxable or tax-deductible status certain requirements must be met. These requirements are often overlooked.
Under I.R.C. sec 215, payments made for alimony are allowed as a deduction. However, in order for payments to be tax deductible, the eight requirements of I.R.C. sec, 71 must be met.
The eight requirements of I.R.C. sec. 71 are:
1. The payments must be made in cash; (e.g. providing a car is not deductible)
2. The payments must be to a spouse or on behalf of a spouse;
3. The payments must be made pursuant to a divorce or separate maintenance instrument;
4. The payments must not be designated as non-qualifying by the payor or non-taxable to the recipient;
5. Spouses may not be members of the same household;
6. The payment must terminate at the recipient spouse’s death;
7. Spouses may not file a joint return; and
8. The payment cannot constitute child support.
The mere use of the word “alimony” or “spousal support” does not make the payment taxable or tax deductible. The proper application of I.R.C. sec. 71 is required.
Attention to details can make the difference in accomplishing or neglecting a client’s goals.