Each house of Congress recently passed tax reform bills. These bills do have some differences and a conference committee will need to find common ground to produce a unified bill to pass both houses. Given that swing votes end up holding all the power, this will be a delicate exercise.
This isn’t a tax blog but a family law and divorce blog primarily for New Jersey. So let’s discuss how the tax reform might impact divorcing couples. I see two main areas of impact.
First, the House version of the tax reform bill eliminates the deductibility of alimony for any new agreements made after 1/1/18. It is unclear if this would refer to agreement modifications made after that date. The Senate bill does not eliminate this deduction. Typically, the higher-earner pays alimony to a lower-earning spouse. Although the lower-earning spouse would pay taxes on the alimony received and the higher-earning spouse would be able to deduct the alimony paid, they would be in different tax brackets. So taxes paid would be at a lower rate than taxes deducted, creating some wealth thanks to that difference in tax rates. For some divorcing couples, this tax effect is very beneficial. See the alimony section on the Divorce and Taxes page.
Second is the elimination of the so-called SALT tax deductibility. SALT = State and Local Taxes. We in NJ have the highest property taxes in the country. Both the Senate and House bills cap the property tax deduction to $10,000 and eliminate entirely the state income tax deduction. When couples divorce, they now have to support two households….two homes, two sets of utility bills, car insurance, etc. Plus two of everything if the couple has children. At the same time, the standard deduction would increase to $12,000 for single filers ($24,000 for married filers). So perhaps some divorcing couples will be able to use the increased standard deduction? That would probably depend on specific circumstances. Both bills also eliminate the personal exemption. That took $4050 per person (including dependents) off of income. However, there are some child tax credits to offset these losses.
Another area of concern for divorcing couples who own a home is a change to the capital gains exclusion. Currently, there is a $500,000 capital gains exclusion for a couple who has used the home as a primary residence for 2 of the last 5 years. Both bills keep the $500,000 but change the time component to 5 out of the last 8 years. So, if a divorcing couple hasn’t been in their home for 5 years and wants to sell the home, they may owe taxes if their home appreciated in value. Maybe one spouse will need to continue living in the home to meet the 5 year standard to avoid paying capital gains taxes?
There are also a few other deductions that are eliminated in various versions of the bill. Both versions eliminate the moving expense and personal casualty loss deduction. The House version eliminates the Student loan interest deduction. The home mortgage deduction also faces proposed changes. Currently, homeowners can deduct up to $1.1 million in the acquisition and home equity loan interest. The House version would lower that to $500,000 for new loans and eliminate the deductibility of second homes and home equity loans. The Senate version would only eliminate deductions on home equity loans. You can find a good overview of all the major changes in this Forbes article.
While many tax brackets would be lowered, these bills are not considered good for NJ resident due to NJ’s high income and property taxes. This article is not designed to be comprehensive, but to give divorced and potential divorcing couples that they could be impacted by tax reform.
Again, none of this may pass. Or it may be heavily modified. I will update/re-post should something changes be enacted into law. In the meantime, this is something for you to think about or call your congressional representative on.