On December 22nd, President Trump signed the Tax Cuts and Jobs Act of 2017 (hereafter "the Act") into law and introduced sweeping changes across the board to the Internal Revenue Code. Many of these changes have begun to take effect now in the 2018 tax year and will continue for years to come (or until a new Congress and a new President intervene with a different tax reform). Several mainstays of the internal revenue statutes (e.g. personal exemptions and corporate alternative minimum tax) are now suddenly heading the way of the dodo.
A stunning change to individual taxation is the treatment of alimony and separate maintenance payments for both the payor and payee. Prior to the passage of the Act, the payor spouse was entitled to deduct these alimony and separate maintenance payments from income and the payee spouse had to include said amounts received in income. With the undesirable outcome of being forced to give a single dime to a contemptable ex-spouse, the cloud with the silver lining was often the deductibility of the sum of those payments to the payor's income. For example, an ex-husband who earns $80,000.00 per year makes alimony payments of $20,000.00 in 2017 to his ex-wife who earns $20,000.00 per year in wages. The ex-husband may deduct these amounts from his yearly earnings, leaving taxable income of $60,000.00 per year, and the ex-wife includes the payments with her wages for a taxable income of $40,000.00. A reduced taxable income meant that the payor spouse could be in a lower tax bracket and reduce their overall tax liability.
Beginning with any divorce or separation instrument executed after December 31st, 2018, the alimony or separate maintenance payment is no longer deductible to the payor and is no longer includible to the payee. The paying spouse will now have to pay taxes on those amounts given to the ex-spouse who will now receive those payments as tax-free income. Alimony and separate maintenance payments will now receive the same tax treatment as child support payments (which have never been deductible for payors or includible for payees before or after the Act). Furthermore, any divorce or separation instrument that is executed on or before December 31st, 2018 requiring alimony or separate maintenance support now but is later modified may be affected by the Act and eliminate the previously enjoyed tax deductions of those payments.
Why eliminate the alimony deduction? According to the Internal Revenue Service, almost 600,000 taxpayers in 2015 claimed the alimony deduction on their individual tax returns for a total exceeding $12 billion. Eliminating this tax benefit will likely lead to increased revenue to the federal government since the alimony will be taxed to the payor spouse who is likely at a higher income than the payee spouse and therefore at a higher tax bracket. For example, under the individual taxation rates of the Act in 2018, a husband who earns $180,000.00 per year is in the 32% tax bracket and will pay higher taxes on alimony payments as opposed to said payments being includible in the ex-wife's income if she only earns $30,000.00 per year at the 12% tax bracket. Since the Act is cutting federal revenue by lowering tax rates on corporations and high-income individuals, the difference has to be made up somewhere.
How will this affect Michigan residents? Fortunately, the provisions of the Act with respect to alimony and separate maintenance payments do not take effect until the 2019 tax year so Michigan family law practitioners have the benefit of one year to digest the implications. Ex-spouses who are already making alimony payments under an existing judgment may continue to use the pre-Act deduction going forward and won't be affected unless the payments are modified by further court order. I predict that there may be a modest increase in divorce filings in 2018, especially in higher asset situations, so that the tax deduction can still be taken advantage of. The final judgment has to be entered on or before December 31st, 2018 to continue to get the alimony deduction under pre-Act laws. Michigan law generally requires a waiting period of two months to complete a divorce after filing if there are no minor children and a waiting period of six months after filing if there are minor children. Spouses who have been contemplating divorce but stand to be the payor of alimony or separate maintenance payments will have to file quickly to potentially benefit from this pre-Act deduction.