Should You Get a Divorce Now or Later?

As I've written previously, the Tax Cuts and Jobs Act of 2017 (TCJA) that took effect in January has added a new urgency for wealthy Americans contemplating divorce.

In this Wealth Matters article in the New York Times, Paul Sullivan writes that several key changes in the law may determine whether it is better to complete or update a divorce agreement by Dec. 31 or wait until the new year.

One of the biggest changes affects alimony, which will not be a tax break for Americans whose divorce agreements are completed or updated after this year. The new tax law is also causing parting spouses to look more closely at benefits for their children and the values of privately owned businesses and partnerships.

There is a lot of money at stake for wealthy couples. Nearly 600,000 taxpayers claimed alimony deductions totaling more than $10 billion for the 2010 tax year, according to the Internal Revenue Service.

For couples who drew up prenuptial agreements, the outcome should they divorce is more uncertain. It is common in prenuptial documents to have a clause saying alimony payments are deductible for one spouse.

Other tax-driven divorce issues require a more careful eye.  One is how private businesses should be valued. This has always been an important component of divorce settlements. But the new tax law increases the cash flow of certain pass-through entities — businesses where the taxes on the earnings are paid by the owner, not the company — in a way that raises their value.

It is also important to look closely at the tax benefits of different assets.  For instance, couples should weigh receiving a house versus a spouse’s retirement plan. Traditionally, the spouse who has custody of the children wants the house. But the new tax changes, particularly in states where deductions for high state and local taxes have been capped, may make the family home less valuable in the long run than a retirement account with a similar value.

My Big Fat Divorce - Learning About Your Options Through The Ending Of A Hollywood Marriage

In 2002 a very funny movie came out. My Big Fat Greek Wedding is the story of a Greek woman who falls in love with a non-Greek man. Hilarity ensues as they plan their wedding and meld their families and cultures. Actress Nia Vardalos wrote, produced and starred in the film which is loosely based on the real life events surrounding her marriage to Ian Gomez; who played the best man in the film. Vardalos and Gomez recently announced they are divorcing after nearly 25 years of marriage.

Unfortunately, divorce is common these days. What is uncommon is the way they have seemingly chosen to divorce. In addition to the dignity and grace they are showing in their public communication of their decision, papers filed by Vardalos and responded to by Gomez indicate they requested that spousal support be determined in mediation. Timing is important because the IRS will not allow spousal support to be deducted for tax savings in divorces finalized after 2018.

In this article Heather Locus writes about what mediation means, how it works, and why would you choose that path.

4 Risks of Pension Plans in Divorce

Although the number of pension plans has significantly declined over the years there are still many of them out there, and many divorcing couples have to figure out how to deal with them.

In this blog posting, Chris Chen writes that the value of a pension benefit can be difficult to determine. Unlike other accounts, pensions don’t come with a statement that makes them easily comparable to other assets; they come with the promise of a benefit (the monthly payment that someone might get at retirement). So the number one priority when a pension is involved in a divorce is to get a valuation. The financial consequences of divorce are serious, and not getting a valuation may lead to struggling financially after divorce.

Risk of Valuation

Even when valued, the number provided on a report may lead to a false sense of security. Unlike other retirement statements, the value of a pension is estimated using the parameters of the beneficiary and of the pension. In most cases the divorce pension payout is calculated with a predetermined formula based on the employee’s length of employment and income.  In some cases, the benefit may vary depending on a few other factors.

Risk of Default

Pensions have a risk of default or reduced benefits in the future. According to the Society for Human Resources Management  114 pension funds are expected to fail in the next 20 years. When you consider that retirement can last 20, 30 or 40 years, you will want to evaluate if your pension plan is robust enough to last that long, and continue making payments for that long.

Personal Risk

People also underestimate personal risk. If you receive a pension as an alternate payee (ie the spouse who is getting a share of the pension from the former employee), you will want to consider the risks that your payments may be interrupted due to issues with your ex-spouse. Many pensions stop spousal payments when the beneficiary passes. When that happens, the alternate payee will have to find an alternate source of income to compensate.

And what about inflation risk?

Most pensions do not have a Cost of Living Adjustment (COLA). Effectively, when there is no inflation adjustment, the value of a pension payment is reduced every year by the amount of inflation. How bad can that be, you ask? Assuming a 3% inflation rate the value of a fixed payment will decrease by almost 50% over 20 years.  . What is the likelihood that expenses will have reduced by 50%?