Home Schooling Contingency Does Not Kill Alimony Deduction

This post was originally published on Forbes May 7, 2015

Alimony deductions seem to generate more than their fair share of tax court litigation.  The latest I have noted is the case of Joshua Henry Wish.  It is the kind I like, a case where the taxpayer wins without the help of an attorney.  It was not a total win as he was dinged with a small math error and it is a summary opinion that cannot be used as a precedent, but still a win is a win and you have to take what you can get.

You would think that alimony would not be hard.  One spouse pays the other.  The payor gets a deduction. The payee picks up income.  In reality, there are some subtleties to avoid child support and property settlements being recharacterized as alimony.  I am beginning to suspect that there are attorneys drafting agreements that are deliberately ambiguous giving the payor an argument for deductibility and the payee an argument for not picking up the income.

Won't the IRS computers pick up that type of nefarious activity?  Indeed, they will since the payor has to put the payee's social security number next to the amount deducted, but there is a way that discrepancies slip through the cracks.  TIGTA recently reported that in 2010 more than half of the over 500,000 returns with alimony deductions (totalling $10 billion) did not match with the income picked up on the corresponding return.  The aggregate dollar mismatch was $2.3 billion.  Unlike a 1099 mismatch, the IRS cannot just issue a deficiency notice, since they do not know who is right.  They have to investigate.  They investigate around 4% of the cases.

It is pretty clear that the ambiguity in Mr. Wish's case was not deliberate.  It is actually a new one on me.  Mr. Wish and his ex-wife had decided that it would be best if she continued homeschooling their children after their divorce.  This reduced her earning potential, so he agreed that he would pay her alimony.  The agreement was that he would pay her $3,800 per month, but that it would be reduced to $1,900 per month if she stopped homeschooling.

His spouse did in fact stop homeschooling and return to work. During 2009 Mr. Wish paid her $3,800 per month for eight months and $1,900  per month for four months.  That works out to $38,000.  He deducted $39,900.  The $1,900 difference is the math error he is getting dinged for.  The IRS wanted to allow only $9,700 although a lot of that adjustment was based on a math misunderstanding on their part, which we don't need to get into.

The actual issue was whether, he could deduct the whole $3,800 during the first eight months of the year or was only entitled to deduct the $1,900 that was not contingent on continued homeschooling. Generally, a contingency related to a child such as graduation from high school will cause a payment to be considered child support, regardless of what the agreements says.  That is not the type of thing that the Tax Court saw in this case.

Petitioner and his former wife entered into the agreement that she would homeschool their child with the explicit understanding that their decision would cause financial hardship for her because she would not be able to work while performing the schooling. Under the terms of the written agreement and their understanding, it was solely within his former wife's discretion as to whether she would go back to work or continue homeschooling their child. During the seventh month of the agreement under the divorce order, the former wife requested increased spousal support payments from petitioner, but he was unable or unwilling to pay more. Hence, petitioner's former wife decided to return to work, and therefore the child was no longer homeschooled. That did not mean that the child was not schooled, because the child continued to be schooled, albeit at a different location, i.e., public school. Accordingly, the contingency was not whether the child discontinued school, but whether petitioner's former wife was willing to make financial sacrifices by not working so as to provide the schooling.

Lew Taishoff covered this case right after it was released.  He thinks despite the lack of precedential value family lawyers should take note of the case and the importance that the contingency was attached to the former spouse's earnings rather than a contingency concerning the child, who would still be getting schooled regardless.  He also indicated that he thinks Mr. Wish did better representing himself than a lot of lawyers would have done for him.