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Alimony Tax and Good Faith

Faust v. Comm’r, T.C. Memo. 2019 105, 2019 WL 3938725 (2019)

(a) Facts: Husband and wife were divorced in Virginia. The wife was a victim of spousal abuse during the marriage. She was Hispanic; English was not her first language.

A divorce settlement agreement, incorporated into the divorce decree, required the husband to pay to the wife $2,270 per month in spousal support. The husband made the payments. The wife’s tax return, which was prepared by a low-income taxpayer return preparation service, did not report the payments as income.

The IRS assessed a deficiency and an accuracy-related penalty, and the wife appealed to the Tax Court.

(b) Issues: (1) Were the payments alimony, and (2) was the wife liable for an accuracy-related penalty?

(c) Answer to Issues: (1) Yes, and (2) no.

(d) Summary of Rationale: The divorce decree and settlement agreement were certainly divorce or separation instruments. They did not expressly designate the support payments as not includible in gross income. The husband and wife did not live together after the divorce. “Unless otherwise provided by stipulation or contract, spousal support and maintenance shall terminate upon the death of either party or remarriage of the spouse receiving support.” Va. Code Ann. § 20-109(D). The settlement did not provide otherwise. The payments were therefore alimony.

The wife’s failure to report alimony as income was a clear mistake. But English was not her first language, she had been abused during the marriage, and her return was prepared by persons claiming knowledge in preparation of tax returns for low income persons.

The accuracy-related penalty is not imposed if the taxpayer acted in good faith.

Taking all of the facts and circumstances together, the Court believes that petitioner made honest and reasonable efforts to determine her 2015 Federal income tax liability and that the underpayment resulted from an honest misunderstanding of law that is reasonable in the light of her limited English proficiency, education, history of abuse at the hands of her ex husband, and the multitude of complicated facts and unusual circumstances surrounding this particular case.

2019 WL 3938725 at *7.

Observation: It is mildly remarkable that a service specializing in preparing tax returns for low-income people did not know that alimony was taxable income. This had been the law for many years before 2019.