Domestic Diversions

Excess alimony payments

The tax advantages of spousal support (alimony) as a means of transfering dollars creates an incentive for creative settlement packages. Spousal support has been used to transfer cash to equalize property divisions (often lessening the financial burden to the payor). When this occurs, the three-year recapture rule serves as a trap for the unwary. (IRC 71(f))

The IRS uses the recapture rule to prevent the tax advantages of support from applying to property settlements. The rule examines whether the parties have front-loaded “excess” alimony payments into the first three years after the settlement. If so, and absent an exception to the rule, the IRS will remove the tax advantages, requiring the payor to pay income tax on all the support payments he or she deducted on his or her tax return.

The formula for computing recapture can be mathematically challenging, but the IRS publishes a worksheet in IRS Publication 504.

Talk to your accountant for more and updated information and specific advice about your situation.

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