One of the requirements for a cash payment to be treated as alimony under Section 71(b) (1) is that it generally be paid pursuant to a divorce decree or decree of separate maintenance(or written instrument incident to the decree such as a marital settlement agreement), a temporary support order of the court, or a written separation agreement. See Sections 71(b) (1) (A) and 71 (b) (2).
A written separation agreement is not what you might think in that:
- It does not have to state that the parties are separated.
- It need not be a formal agreement but can be as simple as letters signed by both parties that expresses an agreement it need not be signed by the spouses but can be signed by one or both attorneys on behalf of the spouses.
- Although unwise the amount of support can be determined from a formula or other determinable guidepost such as such funds as are necessary to maintain the standard of living during the marriage.
(See Generally Frumkes, Melvyn B., “Frumkes on Divorce Taxation,” §3.4.3 et. seq. (James Publishing 2012)
The writings, however, that comprise the agreement must collectively indicate that an agreement has been reached, that is, show that there has been a “meeting of the minds” as the support being paid.
In James J. Faylor, TC Memo 2013-43 the issue of deductibility involved temporary support not paid under a court order as per Section 71(b) (2) (C) but argued by the former husband to have been paid under a written separation agreement under Section 71(b) (2) (B).
The parties separated in May 2007 and the wife shortly thereafter filed a motion for temporary support. Before the court heard the motion, letters were exchanged regarding terms of a temporary support agreement, with the wife suggesting $6,000 per month support and the husband countering with a proposal of $4,000 (both made through the parties’ respective attorneys). A counteroffer of $5,000 per month was made by the husband through counsel and requested wife’s counsel to draft the temporary support agreement. There were other unresolved disagreements as well not mentioned here.
While these negotiations were yet ongoing the husband in September started transferring $5,000 per month to a joint account maintained with wife to cover household expenses. Later, each side offered a proposed temporary support order but neither spouse signed their agreement to either one of the proposed orders and counsel did not jointly sign one agreement reconciling the differing orders. The husband continued with the $5,000 monthly transfers and the court never heard or ruled on the temporary support motion.
In May, 2008 the court entered its divorce decree awarding alimony to the wife of $2,500 for 6 months and $1,500 for an extended 66 months.
The former husband filed his 2008 return claiming an alimony deduction for $36,500, comprised of $20,000 temporary support he had paid voluntarily at $5,000 per month (presumably January through April 2008) transferred to the joint account, and $16,500 paid under the divorce decree. The IRS disallowed the temporary support payments of $20,000 in full and allowed the payments made pursuant to the final divorce judgment of divorce.
The Tax Court held that the $5,000 per month transfers to the joint account totaling $20,000 was not paid under a written separation agreement since the parties in the letters exchanged never reached a meeting of the minds as to what would be paid. Both the former wife and her counsel testified at trial that no agreement had been reached. The court stated:
A written separation agreement has been interpreted to require a clear statement in written form memorializing the terms of support between the parties. Letters which do not show a meeting of the minds between the parties cannot collectively constitute a written separation agreement. (Citations omitted).
The court, however, held that the disallowed deduction should not trigger the harsh 20% accuracy-related penalty since it was reasonable for him to have mistakenly concluded that the payments were alimony.
Two other common misconceptions about temporary support are:
- That it is always non-taxable. To the contrary, if the requirements of Section 71(b) (1) are met, temporary support is taxable unless stated in the order or qualifying agreement to be non-taxable and non-deductible. This often leaves the recipient with inadequate funds unless the amount being paid is grossed up to reflect taxes that must be paid on the temporary support. If the idea is to preserve the status quo, make the payments non-taxable/ non-deductible or gross-up the payment for taxes.
- That the spouses must live in separate households. This is not a requirement for temporary support payments not made under a legal separation agreement (may be obtained in some states but not in Florida) or decree of divorce. The spouses can live in the same household and the payments will be deductible, if otherwise meeting the requirements for alimony and not stated to be non-deductible/ non-taxable.
© 2013 by Robert S. Steinberg, Esquire
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