You are getting divorced and you need money. You need support – for you, and for your kids. Your soon-to-be ex is willing to pay child support. He says he has no problem supporting his kids. But supporting you? … fuggedaboutit!
Just as you are gearing up to go to war over alimony, your spouse’s lawyer suggests that, instead of paying you child support and alimony, your ex can pay you “unallocated support,” which, as you understand it, is support for both you and the kids. Suddenly, your ex seems to be ok with the idea that he will continue to support you after your divorce. He even offers to pay you a tiny bit more in unallocated support than what you wanted him to pay for alimony and child support. While you are grateful for the offer, you can’t help but be suspicious. There has to be a catch, right?
What You Don’t Know CAN Hurt You
Why would your ex be ok with supporting you if that support is “unallocated” and includes support for you and the kids, but not be ok with supporting you and the kids separately with alimony and child support? The answer is simple: taxes.
The Tax Consequences of Alimony, Child Support, and Unallocated Support
Alimony is tax deductible to the payor spouse and taxable income to the receiving spouse. That means that your spouse gets to deduct all of the alimony he pays you from his gross income for income tax purposes. You, on the other hand, must declare all of the alimony you receive as income on your income taxes. So, your ex’s income goes down and your income goes up based upon how much alimony he pays and you get.
Child support is not tax deductible to the payor spouse. So, unlike with alimony, whatever your ex pays you in child support has no effect on your income, or on his. That makes getting child support better for you than getting alimony.
Unallocated support is a combination of child support and alimony. For income tax purposes, though, unallocated support is treated like alimony. That means that everything your ex pays you in unallocated support gets deducted from his gross income and added to your gross income for tax purposes, even though a part of that money was intended to support your children.
What Difference Do Taxes Make?
At this point you may be wondering whether taxes are really such a big deal. If your ex is willing to pay you more in unallocated support than he is in child support and maintenance put together, shouldn’t you be happy? Maybe. But before you know whether what your ex is offering you is a good deal, or a bad deal, you have to understand what you are really getting.
The important question is not how much your ex pays you, but how much of what your ex pays you do you get to keep? To answer that question you have to subtract the taxes you are going to have to pay from the support that you are going to receive. Because child support is not taxable income to you, you keep it all. With maintenance, you only get to keep a portion of what you receive. The rest goes to pay your income taxes. The same thing is true with unallocated support. So, to really know whether your ex’s proposal is a good one, you have to do the math.
Sample Income Calculation
Let’s use a very simple example. Lets say that you are unemployed. Child support in your case should be $1,500.00 per month. Maintenance, based upon your state’s law (hypothetically) should also be $1,500.00 per month. But, if you will accept unallocated support, your ex has offered to pay you $3,500.00 per month. Which option puts more money in your pocket?
To figure out which option gives you the most money, you need to know your tax rate. The problem is, your tax rate changes based upon how much income you receive. If your only income is $1,500 per month in alimony, your 2014 tax rate would be 10%. If your income is $3,500 per month in unallocated support, though, your 2014 tax rate would be 25%. Using these numbers, your tax calculation would look like this:
$1,500 child support $3,500 unallocated support
1,500 alimony
= $3,000 total support
– $225 taxes (10% x alimony) – $875 taxes (25% x unallocated support)
= $2,775 money left for you =$2,625 money left for you
As you can see, in this example, even though your ex would be paying you more in unallocated support than he would in child support and alimony combined, you would have more money left in your pocket after taxes if you took child support and maintenance rather than unallocated support. Remember, it is not what you get, but what you keep that matters.
The Bottom Line
If your head is already spinning, you are not alone! (… and this is just a very simplified, hypothetical example!) Calculating the tax implications of various support options is complicated! That is why you should consult with an accountant or a divorce financial planner BEFORE you settle your case. A qualified financial professional can not only help you understand the effect that taxes will have in your case, but s/he can also help you and your spouse work together (assuming your divorce is amicable) so that you can make a settlement that puts more money in both of your pockets by maximizing the tax advantages available to both of you.
What if your divorce is not amicable? It doesn’t matter. You still need to know how taxes on your proposed settlement will affect you. When you do, you will realize that child support, alimony. and unallocated support are not at all equal.
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I’m betting that if Walter Scott had it to do all over again, he’d chosen alimony over child support.
Good advice on looking at the tax implications. It’s really true for all financial aspects. Be especially careful about various types of investments. When we did my fincancial eval, I put a $ value on everything. What is it worth, what does it cost, what is the value to me today, what is the value to me at some point in the future.
The other aspect of this is motivation. My guess is that the person who agrees to this is onboard with supporting the kids but wants payments to the ex to end when the kids become adults. As I understand it, it can be very difficult to get alimony to end. At it’s root, it is supposed to be need based and you have no control over what the receiver’s need state will be in the future. The other aspect is that it is also difficult to get alimony reduced when there is a reduction of income, but most states calculate child support based on a formula and will recalculate when there is a valid change in income. We have an agreement that my ex-wife’s child support payments gets reevaluated every two years. We just share our recent tax returns and plug in the numbers.
On the plus side, while the unallocated support does end when the kids are adults, it doesn’t end with a remarrige where alimony typically does. So if another walk down the isle is in your near future, do the math and it might be worth it.
It sounds like you and your ex have worked things out in a way that makes sense for you! You’re right too — looking at the tax implications of every financial aspect of divorce is so important!
As for alimony, it’s tough to say whether it is difficult to reduce or end it. In some places it is difficult to get it! A lot depends upon the law in the state in which you live. Some states are actually moving towards adopting formulas to calculate alimony, just as there are formulas to calculate child support. Those formulas determine how much support gets paid and for how long. Other states don’t have such formulas. So a lot depends on the law in your state, and the facts of your case.
… Btw, it wouldn’t have mattered too much whether Walter Scott owed back child support or back alimony. If he didn’t pay what he owed he still would have ended up back in court when his ex tried to force him to pay. And, if he blew off the court appearances, he would have ended up being held in contempt no matter what. So the best thing Walter Scott could have done was to pay what he owed and stay out of court!
I guess you are right, if you fail to comply with a court order, technically you can be called back to court and potentially jailed. As I understand it, Scott (I’m sure he was no angel) was worried about going back to jail, not court, but one is just the expensive, humiliating, and turns out dangerous first stop on the way to the other.
I’ve only heard about jail sentences in child support cases but, but after reading your comment, I Googled the topic and sure enough there are guys going to jail for failure to pay alimony as well. The ones that make the news are all unemployed (I’m sure that there are Oscar Madison’s out there hiding on the fire escape too). It was never an actual motivator for me, but knowing what I know now, I do sleep better knowing that not in jeopardy of being jailed for losing my job. I don’t think it has ever crossed my ex-wife’s mind that she could be jailed for being behind on her child support payments. I just forgave her arearage (out of work and uncovered medical expenses due to a car accident, not an unwillingness to support her children) as part of an agreement that would get her into a place more suitable for overnights with our kids. It helps that unlike most custodial parents, I don’t actually need her money. It puts me in a position where I can consider that any path that harms her is not what is best for our kids. I know that it is a different world for other parents and people living different lives.
We do get along(now), but I don’t know that my ex-wife thinks we worked things out. whe wanted a 1940’s divorce and ended up a non-custodial parent. We each filled a college fund for our lawyer’s kids. I think the kid I sponsored will be able to get into Harvard on a 1.6 GPA. My exwife actually made a ton of mistakes in the area that you are discussing and in a lot of respects, she’s paying for it now. Armed with a better understanding of the actual costs and values of things, she would have done better and a lot of it would have not harmed me even though she did better. I make 10x what she does so things that have tax implications affect me pretty hard, but she files a 1040 EZ. One of the choices she made would have been brilliant if her situation was reversed, which was why I wanted it. The smarter move would have been to negotiate based on my advantage. She kept it all and because of her tax status, there was no actual advantage.
The deliberate mislabeling of alimony as child support is one of the reasons that I regularly write my legislators about my states flawed ‘child support’ guidelines.
Child support should be for the care and maintenance of CHILDREN, not a requirement to provide a government mandated lifestyle for the children, and by inference, the custodial parent, and her …paramour.,
I have also repeatedly requested to use a child support trust account in the form of a shared checking account that both parents deposit money into in order to provide for our children’s needs, but my ex-wife refuses. My ex-wife also describes the child support payment as ‘her’ money, and my family court judge has told me that “your [ex-]wife” (NOT our children) “deserve that money”.
And Her Honor (sarcasm intended) still does not understand why wronged noncustodial parents (like me) help her opponents during judicial elections. It is my fervent hope that we will be successful during the upcoming judicial election. I’m willing to take a chance on the devil I don’t know than continue dealing with the devil that I do know.