The new tax law, Tax Cuts and Jobs Act of 2017 (“TCJA,”) impacts many of the most commonly negotiated terms in divorce. I’ll briefly cover just a few here. Please be sure to review your tax status with your tax planner or attorney before next year.
Alimony:
For divorce decrees after December 31, 2018, alimony will no longer be deductible by the payer or taxable to the payee. This could reduce the willingness of payer to pay as much spousal support as they had in the past. It is still unclear what the IRS will do when previous support agreements are modified after this date.
After December 31, 2018, the IRS will no longer need two important rules that the IRS used to deny the deductibility of alimony before 2019 (with taxes and penalties) when child support or property transfers were called ‘alimony’ only for the purpose of taking the deduction. The IRS will not longer need to (1) reclassify alimony as child support if alimony ends on any date associated with the child and (2) reclassify front loaded alimony as a property transfer if alimony drops by more than $15,000 in the first three years (known as the ‘Recapture Rule”).
Personal Exemptions:
All personal exemptions, including those for dependent children, are suspended from December 31, 2017 and until December 31, 2025. Instead the standard deduction is increased for single, head of household and married filers (see below). However, parents can negotiate who will claim the Child Tax Credit, in those years using the same form (Form 8332).
You can still negotiate who gets the dependent exemption after December 31, 2025 under the assumption that this exemption returns after 2025.
In many divorce decrees settled in and before 2017, the personal exemption was negotiated. The decree made clear who was awarded the exemption – typically the higher earning parent. The IRS will look to the form (Form 8332) or where the child lived for the greater number of nights to determine whether or not a parent can claim a personal exemption.
Up until and including the 2017 tax year – and absent a 8332 filing, the first parent who filed for the dependency exemption (and head of household designation) got those benefits, at least in the moment, because the IRS has no way to know which parent had the child for more than half the year. The IRS does not have a copy of your decree nor do they know who had the child for more nights. When the other, “second to file” parent believed s/he met the requirements for the dependency personal exemption (and head of household designation), s/he has to “paper file” the return and then both have to provide evidence to the IRS that the child lived in their household for more than half the year. Tip: Keep a record of what nights the child stayed with you.
The Child Tax Credit:
The child tax credit is a credit that offsets the taxes you owe dollar for dollar and is available if you have a child younger than age 17 at the end of the year, and where that child lived with you for at least one-half of the year. Under the prior law, the credit permitted you to reduce your tax by as much as $1,000 for each qualifying child. Under the new tax bill, it is increased to $2,000 for each qualifying child.
As was the case previously, it remains that you can only claim the child tax credit if you claim the child as a dependent. Accordingly, for a non-custodial parent to receive this benefit, the custodial parent must agree and assign that right (via Form 8332) to the non-custodial parent in the years s/he will be permitted to claim a dependent child in their tax filing.
Phase outs for the child tax credit, for 2017, started at $75,000 for single and head of household filers. Often this $1000 credit was not negotiated because the higher earning parent would not be eligible due to the phase out. However, for 2018 the phase outs are much higher – eligible Adjusted Gross Income of $200,000-$240,000 for single and head of household filers.
Of note: the personal exemption had no phase outs in the past and at this writing I don’t know what will happen after 2025.
Head of Household Designation:
Head of household is defined by the IRS as one who pays for more than half of household expenses and has a qualifying dependent. A Qualifying Person is your child, stepchild, or foster child who lived in your home for more than half the year (except temporary absences). Half of expenses means that you must have paid more than half of the total household bills, including rent or mortgage, utility bills, insurance, property taxes, groceries, repairs and other common household expenses.
For tax filing purposes, having custody is not the same as it is for a divorce decree. While a divorce decree can state that one parent has custody of a child, the requirement for the IRS generally depends on which parent the child lived with for the greater number of nights. A divorced parent may have to prove all of the above paragraphs with this designation. Tip: Keep a record of what nights the child stayed with you.
The amount of the standard deduction for head of household filers is greatly increased from $9,350 in 2017 to $18,000 in 2018. Single filers will have a $12,000 standard deduction in 2018, up from $6,350 in 2017. A head of household designation is not only valuable when itemized deductions do not equal to or exceed $18,000 but also because of the designation’s better marginal tax brackets. A parent who may have itemized deductions that exceed $18,000 may still want to file as head of household in order to be eligible for the lower marginal tax brackets.
Of note, itemized deductions are more limited starting in 2018. From December 31 2017 to December 31, 2025, state and property tax deductions are limited to $10,000, mortgage deductions are a bit more limited and fees incurred for tax advice related to divorce (and others) are no longer deductible.
Final Thoughts:
The ideal situation is one where parents can work together to file their taxes in a way that maximizes benefits related to their children.
As of this writing, only limited details of the new tax law have been worked out by the IRS. Please be sure to review your tax status with your tax planner or attorney before next year.
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