New Tax Law, New Divorce Plans: When to consider a trust

Uncle Sam plays a role in pretty much any financial transaction that happens inside the United States — even in some that happen outside of our country, but that is fodder for a different post. This post focuses on the role the Internal Revenue Service (IRS) plays in divorce.

One unforeseen consequence of divorce is often taxes. Although much of the shifting of property and assets during divorce is not subject to tax obligations, there are exceptions. If not properly navigated, the marital finances can take a hit during the divorce process.

In the past, those going through a divorce would use strategies to help limit tax obligations. A prime example involved alimony. Couples could negotiate a higher alimony payment because the individual paying alimony could generally get a tax break. As discussed in a previous piece, available here, that is no longer an option. A new tax law removed this tax deduction and has left those going through a divorce struggling to find a resolution.

One potential option: use of a trust. Generally best considered by high net worth couples, a grantor trust could be drafted to provide payments to a spouse in place of alimony. A professional can draft the trust to ensure the receiving spouse is responsible for tax obligations on payments from the trust. The creator can design the trust as part of the property agreement. As such, establishing the trust should be a tax-free transaction.

Critics state the IRS may disagree with the property agreement argument and claim the trust is simply alimony in disguise. As a result, the agency could attempt to collect additional taxes.

This strategy is just one of many to discuss with your legal counsel to better ensure a favorable divorce settlement agreement.

Tags: alimony, Divorce, family law, tax, tax law, trust