When Death is not the end, the IRS steps in: Part 1 of 2
Wolens v. United States, 125 Fed. Cl. 422 (2016)
Facts: The parties married in New York, but divorced in England. Their English divorce decree provided for a large initial payment to be made by the husband to the wife, followed by annual payments of £441,667 in 2007, 2008, and 2009. (The 2009 payment was one pound less.)The husband’s initial tax return did not claim the 2007 payment as alimony. He later filed an amended return which did claim the 2007 payment as alimony. The IRS disallowed this return and refused to issue a refund.
The husband then filed suit in the Court of Federal Claims to obtain the refund. The IRS then moved to dismiss the action, arguing that the husband could not establish that the 2007 payment terminated upon death of the payee. The husband filed a motion for summary judgment, arguing that the payments clearly did terminate.
Issue: Was the 2007 payment alimony?
Answer to Issue: The answer depends upon material issues of fact; the motion to dismiss and motion for summary judgment are therefore denied.
Summary of Rationale: If the 2007 payment did not terminate upon death of the payee, it clearly could not be alimony for federal tax purposes. The agreement itself was silent on this point. The key question was therefore whether the payment automatically terminated at death under the controlling domestic relations law. “[A]lthough the government has shown that the term ‘lump sum’ is typically associated in the United Kingdom with a division of marital assets, it has not established that this is the only reasonable interpretation” of the agreement. 125 Fed. Cl. at 430. In particular, the annual payments might be construed together as a periodic obligation, instead of being construed separately as individual lump-sum obligations. The IRS’s motion to dismiss was therefore denied.
The husband’s motion for summary judgment was also denied, for essentially the same reason; the decree was ambiguous, and its construction was therefore an issue for trial.
Procedural Observation: Tax law issues most commonly arise in Tax Court, but a claim for a refund on taxes already paid can be made in the Court of Federal Claims.
Substantive Observation: There is a world of difference in the attitudes of the respective courts in Crabtree and Wolens. Crabtree was actively searching for ways to find that the payments terminated upon death. Wolens was actively suggesting reasons why the payments might not terminate upon death. Some of the difference is procedural; Wolens was decided on pretrial motions, while Crabtree was decided after trial. Still, the difference in attitudes is striking.
Lesson: Federal court attitudes on whether payments terminate upon death can differ substantially. The safe option is to assume nothing. If you want an obligation to constitute alimony for federal tax purposes, state expressly that it terminates upon death of the payee.
Jurisdictional Observation: Other facts being equal, it is probably harder to convince a court to put language in a decree responding to federal tax concerns when the court is not located in the United States. This is probably one minor reason why United States citizens should have a preference to obtain their divorce in a United States court; it may be easier to obtain the desired tax treatment of payments made pursuant to the settlement.
Part 1 | Part 2