With the recent changes in the tax code that eliminated the deduction for alimony, divorcing spouses in higher tax brackets who would have been able to offset the financial pain of large alimony payments with a nice tax break no longer have that to cushion the blow. Many are looking for other ways to take the sting out of alimony.
One option that some people consider is something commonly called an “alimony trust.” In estate planning circles, these are called grantor trusts.
When used for spousal support, the paying spouse funds the trust with assets that can include investments, property and/or business equity. The spouse who’s receiving alimony is the trust’s beneficiary. They’re paid through the income the assets generate. The assets are typically managed and distributed on an agreed-upon schedule by a designated third party who has some expertise in asset management and can be an impartial intermediary between the former spouses.
Convincing the spouse who will be getting spousal support that this is the best solution may be a challenge. The receiving spouse will have to pay taxes on the income from the trust — something they wouldn’t have to do on traditional alimony thanks to the tax law changes.
However, an alimony trust could provide them with more financial security in the long run. If they paying spouse doesn’t always make wise financial decisions, having the assets for which they depend for support managed by someone who knows what they’re doing can be reassuring. An alimony trust is less likely to be impacted by the paying spouse’s financial or professional ups and downs than traditional alimony payments would be.
Another advantage is that the trust payments will continue even if the paying spouse dies. Traditional alimony payments end upon the payor’s death.
Although these are commonly referred to as alimony trusts, as one attorney explains, “It’s not alimony. It’s a property settlement…” However, they have to be carefully set up to get the tax benefits, and that may mean limiting the designated payouts. As one accountant notes, “Let’s say you created a trust for the benefit of a spouse, and you’re guaranteeing $2,000 a month. The IRS could say that’s just disguised alimony.”
If you’re considering one of these trusts, your attorney can provide valuable guidance. It’s also wise to seek advice from your financial and tax advisers.
