Couples divorcing in 2019 can no longer utilize a tax deduction for spousal support payments under the Tax Cuts and Jobs Act (TCJA). However, there are other strategies to take advantage of favorable tax treatment in divorce. A legal structure termed an “alimony trust” captures some key tax benefits. While also delivering other advantages to ex-spouses and their children.
For couples who finalized a divorce settlement prior to January 1, 2019; spousal support payments were deductible by the payor spouse.
These amounts were also taxable for the recipient. The person paying alimony could save considerably by not having these amounts included in income. However, the TCJA eliminated the alimony tax break entirely for couples who settle their divorce in 2019 and going forward. A payor spouse will be taxed on his or her full amount of income. The recipient will not incur tax liability for spousal support payments.
Creation of an alimony trust can alleviate some of the tax burden for the ex-spouse who pays support.
That individual funds a grantor trust with income-generating assets. Examples include shares in a business, investment accounts, real estate, or other types of property. The trust pays income to the recipient, as beneficiary, in the amount that he or she would receive as alimony. A third party acts as trustee to manage the trust assets, so there is a neutral party overseeing it.
Charles D. Stark, a Sonoma County alimony and spousal support attorney, explained alimony trusts in more detail. “Essentially, couples are working out asset division when creating this type of trust. The arrangement isn’t alimony in the strictest sense. It’s a property settlement, which is common to any divorce.”
Mr. Stark pointed out some additional benefits for alimony trusts unrelated to tax matters.
“The structure is also useful when the recipient spouse will receive a large sum as spousal support, but is less sophisticated financially. An alimony trust protects the principal assets, while still providing income to the recipient spouse.”
In addition, divorcing couples may want to consider an alimony trust to hold non-liquid assets, such as rental property.
Dividing and selling off certain assets may have drawbacks for both spouses, and a trust could retain their value. By its terms, an alimony trust terminates when the obligation to pay spousal support ends, through remarriage, death, or by court order. Upon termination, the trust assets can be transferred to children or other beneficiaries.