Just giving money to your ex-spouse is not enough to get a maintenance allowance. The payment must be part of a legal divorce or separation agreement, according to a recent U.S. tax court case.
In Mudrich v. Commissioner, TC Memo 2017-101, Paul Mudrich learned this lesson the hard way after agreeing to share a bonus with his future ex-wife.
Although many asset comparisons are tax-deductible for tax purposes, maintenance is deductible by the payer and taxable by the recipient. However, child benefit payments are not. In order to be able to claim a deduction, the maintenance must meet the following requirements:
- The payment must be made under a “divorce or separation instrument”.
- The instrument cannot specify conditions under which the payment is non-deductible and non-taxable.
- The parties cannot live in the same household at the time of payment.
- The payer’s obligation to pay must end with the death of the recipient.
In this new case, Mudrich, an attorney, earned a $ 250,000 bonus in 2006 when he was married to his wife, Lauri. After tax withholding, Paul received more than $ 155,000. In January 2007, he filed for divorce from his wife.
Prior to the divorce, Paul paid almost half of the bonus to Lauri Bonus on May 18, 2007, minus the withholding, and that he would include the entire bonus on his tax return. This contract was signed on June 18, 2007.
The couple’s marriage ended on August 8, 2007. A spousal support ruling required Paul to pay Lauri $ 3,270 a month in temporary assistance, plus 31.3 percent of the income he earned over $ 12,500 a month. The bonus payment was not mentioned in the support order.
In an amended joint statement filed in 2007 with his new spouse, Paul requested a $ 127,000 alimony deduction, which was the bonus payment, seven monthly temporary benefit payments, and a remaining amount he later admitted was not alimony. The IRS has challenged the alimony deduction for the bonus.
The tax court found that the payment to Lauri under the bonus agreement was not a maintenance payment as the bonus agreement was not a divorce or separation instrument. There was no evidence that the bonus agreement ever became a divorce order, nor was it a written separation agreement.
A written separation agreement must be a clear, written statement setting out the terms of support between the parties and considering separation.
This tax result is particularly difficult for Paul to cope with because he could have received a maintenance deduction by including the bonus allocation in his divorce contract.
This was a lawyer who needed timely tax advice.