The Tax Cut and Jobs Act (“TCJA”) sparked extensive controvers even before it was signed into law by President Trump just before last Christmas. But there is little disagreement about one aspect of the law: it has the potential to cause confusion for most couples negotiating spousal support in a dissolution or divorce.

The TCJA makes a simple but profoundly important change to the treatment of spousal support payments.

Currently, spousal support payments are deductible for income tax purposes to the spouse paying them, and are taxable to the spouse receiving them, unless there is an agreement to the contrary by the parties.

Beginning on January 1 of 2019, however, the law changes the tax treatment for both spouses. Spousal support payments for dissolution judgments entered next year and afterward will not be deductible for the spouse paying them, and will not be taxable to the spouse receiving them.

(The change does not appear to affect existing dissolution judgments, nor any that will be entered prior to January 1 of 2019. Similarly, if a dissolution jugment is entered prior to that date, any modifications of spousal support after January 1, 2019, should not affect the deductibility or taxability of payments made pursuant to that agreement.)

For Uncle Sam, eliminating the deduction for spousal support payments is expected to generate about $8.3 billion in additional tax revenue over the next 10 years.

The TCJA will affect a lot of families. In 2014, the most recent year for which statistics are available, about 814,000 American couples divorced. In 2015, according to the Internal Revenue Service, about 600,000 taxpayers deducted spousal support payments. (Less than 180,000 filers reported receiving spousal support, suggesting many recipients may be failing to pay taxes they owe.)

Why does the new tax treatment matter? After all, under the new law the payment is a non-taxable event for both parties, so isn’t the after-tax effect the same for each one?

It would be the same if both spouses had the same taxable income and were in the same tax bracket. But in the overwhelming majority of divorces, one spouse earns much more than the other.

This means that in the typical divorce, the deductibility of spousal support translates into a substantial tax savings for the spouse paying it. For the payee, who generally has a lower income, the tax on the support received is significantly less than the tax savings enjoyed  by the payor.

Let’s say the spousal support is $10,000 a month, and the spouse paying it is in the 50% tax bracket, while the spouse receiving it is in the 30% bracket. The after-tax cost to the payor is $5,000 a month, but the after-tax cash kept by the recipient is $7,000 a month. In effect, the payee spouse receives an additional benefit of $2,000 per month.

This differential, or arbitrage, has been an important factor both in negotiations between divorcing spouses over the amount of spousal support to be paid, and in bridging the gap between the income of the two parties and the cash they need to maintain two households after they separate.

When spousal support is contested, judicial officers generally take into account the tax impact when fashioning support orders.

(The House Ways and Means Committee, which wrote the new tax law, called the spousal support deduction a “divorce subsidy,” the result of which was that “a divorced couple can often achieve a better tax result for payments between them than a married couple can.” This ignored the fact that a married couple enjoys the advantages of filing a joint tax return, while divorced spouses must file individual returns.)

After the TCJA’s new treatment of spousal support is fully effective, spousal support will be significantly more expensive to the paying spouse. That is likely to cause some of those spouses to negotiate harder for lower payments.

The spouse receiving spousal support in post-2018 divorces will benefit by not having to pay income tax on that money. Even so, if the paying spouse provides substantially less spousal support because of the loss of the tax deduction, the recipient spouse would end up with less cash to cover living expenses.

The changes triggered by the tax law may also affect prenuptial and postnuptial agreements, which often include clauses about the amount of spousal support to be paid if the couple gets divorced. Until now, these clauses generally have been calculated on the after-tax effect of the payment.

A separate clause in the TCJA is likely to affect negotiations of divorce agreements when there are minor children. The law doubles the child tax credit to $2,000 per dependent child, so negotiating the right to use the credit will likely be part of future divorce agreements.

In order to avail oneself of the current law allowing for the deductibility of spousal support, one should attempt to enter their Judgment of Dissolution before the end of this year.

A party should also ensure that their family law counsel incorporate very specific protective language regarding the parties' intentions relating to the deductibility of spousal support, including any potential modifications in the future. If a party cannot accomplish this, he or she should collaborate with their accountant to determine what financial impact the lack of deductibility will have, and use that reality in settlement negotiations with the other party.

By Kayla Horacek