Divorce, Child Custody and Child Tax Credits - Filing Changes to Keep in Mind and Save Money
Updated: Dec 14, 2021
The 2017 tax law changes significantly impacted divorce settlements. Clients navigating divorce are often most concerned with a property settlement or alimony / spousal support payments. An often overlooked aspect of a divorce settlement with minor children is which parent can claim the child tax credits and dependent care credits. This can be especially true if the custodial care arrangement for the children shifts to something other than what is in the divorce decree. This blog post will review the rules related to divorces and the impact on minor children, and point out tips to avoid traps and lost tax credits.
What are the Major Tax Law Changes for Alimony in 2019?
The 2017 tax law changes had a significant impact on structuring divorce settlements. The 2017 law amended the tax laws related to alimony payments and child related deductible expenses and tax credits. Some of these changes are permanent and some begin for calendar tax year 2018 and are available through the calendar tax year 2025. Taxpayers must pay close attention to which changes are permanent and which are temporary.
What are the Tax Changes to Alimony Payments?
Alimony payments are payments to a former spouse under a divorce or separation agreement. The payments must be specified in the divorce agreement and cannot be voluntary. Prior to the 2017 tax law changes, alimony payments were tax deductible to the payor and the recipient included alimony payments in taxable income. This was true whether the taxpayers reported itemized deductions or used the standard deduction.
For divorce settlements finalized in 2019 and after, alimony payments will no longer be tax deductible for the payor. Payments will also not be included in the taxable income of the recipient. As a result, alimony payments no longer provide a strategy to reduce high income taxpayers’ taxable income by making deductible alimony payments instead of child support payments.
For divorce and separation settlements effective prior to January 1, 2019, payments may be deductible by the payor in 2019 and later years and included in the recipient’s taxable income. This result may be adjusted if the divorce agreement is amended in a layer year to exclude alimony payments from the recipient‘s income.
Does the 2017 Tax Law Change Impact Innocent Spouse or Injured Spouse Relief?
No, these two forms of relief are still available and have not changed. It is still possible for a taxpayer to be liable for tax debts, penalties and interest of the ex-spouse for years when the taxpayer was married. When a married couple files a joint return, both spouses are generally liable for the entire amount of tax due.
What is Innocent Spouse Relief?
Innocent spouse relief is a tax resolution option for a taxpayer when the IRS attempts to hold that taxpayer liable for the joint tax liability when a spouse or (more likely) ex-spouse misreported income or deductions or failed to include income on a return and the taxpayer would not know about the omitted income.
What is Injured Spouse Relief?
A taxpayer should request injured spouse relief when a tax refund that relates to a refund tax year when the taxpayer filed married filing jointly resulted in a tax refund that was taken By the IRS to pay a tax debt of the ex-spouse or the ex-spouse’s state tax debt, child support or federal student loan debt. This is an unfair result and the taxpayer may request tax relief.
What Strategies Might be More Common Now?
Taxpayers now may increase a shift in property that generates taxable income. This could be in the form of investment assets that have a built in taxable gain that could be recognized by the taxpayer in the lower tax bracket. By doing this, the overall tax burden would be lower resulting in maximum value of the total assets to be split. Another strategy involves maximizing the value of tax credits related to the children.
What are the Available Tax Credits For Children?
The two big tax credits are the child tax credit and credit for dependent care expenses. Taxpayers may also plan for claiming education credits.
Who Can Claim the Child on the Tax Return After Divorce?
The question of which parent can claim the child for tax purposes after a divorce settlement can become complicated depending on the living arrangements and terms of the divorce settlement. Another layer exists when the divorce agreement is silent regarding who claims any available tax benefits.
Changes to the Child Tax Credit
Generally a child must be a qualified dependent. There are many rules but generally the qualified child must be your child, under the age of 19 (or 24 if a student), must live with the parent for more than half the year, must receive more than half of support from someone else, and not file a joint return. After a divorce, it may be unclear who the child lives with for more than half the tax year or the living arrangements may shift from year to year. The child tax credit is available for qualifying children of a taxpayer who are under age 17 at the end of the tax year.
The custodial parent will generally be able to claim the child for the child tax credit after a divorce, separation agreement or if the parents live apart. If the non-custodial parent satisfies a four part test, that parent can claim this tax credit. The four parts include:
1. There must be a final divorce or separation agreement, or must be living apart for the final six months of the year,
2. The child receives more than half of his or her support for the year from her parents,
3. The child is in the custody of one Or more of the parents for more than half of the year, and
4. The custodial parent signs a written agreement that he or she will not claim the child as a dependent for the year and the no—custodial parent attaches this statement. To his or her tax return.