Tax Issues in a Colorado Child Support or Alimony Case

Tax issues are intertwined with child support and spousal maintenance cases. From the very outset, where your IRS returns are a mandatory financial disclosure, through the trial, where tax returns are potentially important evidence, through the direct impact on the outcome, there is no denying how important tax issues are in family support cases.

In short, tax documents are helpful to prove a party's income for family support purposes, and once ordered, neither child support nor alimony are tax-deductible to the payor, nor taxable to the payee (except for spousal support in a divorce decree entered prior to 1/1/2019).

The Colorado Family Law Guide has three in-depth articles on the role of taxes in family law cases:

• Tax & Family Support (this article)
• Tax on Divorce Settlement - Addresses how tax documents can confirm what retirement and other assets a spouse may have, and how taxes may affect the division of marital assets and debts.
• Tax & Divorce - Explains tax filing issues which arise in a divorce, from using tax returns to prove the existence of a marriage, to filing status after divorce, annulment or legal separation.

Tax Returns are a Mandatory Financial Disclosure

From the very beginning of your child support or maintenance case, taxes are involved. The Colorado Rules of Civil Procedure require both parties to exchange financial information whenever a case is filed where they are relevant - and for the purposes of this article, that means any case where support is potentially implicated, including:

• Motion to modify child support or maintenance.
• Motion to modify parenting time, as a change in the overnight parenting schedule may require a recalculation of child support.
• Motion to relocate with children, because moving away would also affect overnights.

C.R.C.P. 16.2(e)(2) provides "A party shall, without a formal discovery request, provide the Mandatory Disclosures, as set forth in... Form 35.1, C.R.C.P." And Form 35.1 Mandatory Disclosure is very comprehensive about the tax documents each party is required to disclose:

"(b) Income Tax Returns (Most Recent 3 Years). The personal and business federal income tax returns for the three years before filing of the petition or post-decree motion. The business returns shall be for any business in which a party has an interest entitling the party to a copy of such returns. Each return shall include all schedules and attachments, such as W-2s, 1099s, and K-1. If a return is not completed at the time of disclosure, include the documents necessary to prepare the return, such as W-2s, 1099s, and K-1s, copies of extension requests, and the estimated amount of tax payments. If a decree has been entered within the last three years, only those returns filed since entry of the decree need be provided."

For a more detailed discussion of the disclosures required in family law cases, see our Financial Disclosures in a Divorce article.

Using Tax Documents In a Family Support Case

With a tax return, a party reports his income to the IRS. That makes tax documents of critical importance in a family law case where courts also determine a party's income for purposes of calculating support. Rather than relying upon a party to accurately report income in their sworn financial statements, tax documents (not just the returns, but especially W2s) allow verification of the numbers, as well as year-on-year comparisons.

Tax Returns & Total Income

The starting point for determining both alimony and child support is the income of each party. With a tax return, you can determine how much they reported to the IRS, in case it varies from the sworn financial statement. Here's the income section from the front page of an IRS Form 1040 U.S. Individual Income Tax Return:

For purposes of family support, use the total income in line 9 as the starting point, since this most closely mirrors the definitions of gross income under both the maintenance and child support statutes.

Most people will have some salary, and potentially investment or retirement income. If a party has "other income" in line 8, then it's also important to see the breakdown of that income from Schedule 1 Additional Income and Adjustments to Income. Such income includes alimony received, business income, rent, and pretty much every other possible form of taxable income.

A tax return can not only be used to attack a party who may claim to the court a lower income than declared on the tax return, but can also be used to help defeat a claim of hidden income. If spouses who are going through a divorce filed joint tax returns during the marriage, and in those returns claimed only a certain income figure for the husband, if the wife claims that she knows he has hidden income and the return is not accurate, not only is she implicating herself as a tax cheat, but she's also diminishing her own credibility ("were you lying last year when you signed the return, or are you lying now?")

So while not conclusive, a tax return can help to "lock in" parties' incomes when there are conflicting claims of a party's income at trial.

W-2 & Gross Wages

The Colorado maintenance (C.R.S. 14-10-114(3)(a)(I)(A)) and child support (C.R.S. 14-10-115(3)(a)(I)(A)) both utilize a party's "gross income" for purposes of determining family support. That means a judge will consider the income earned before any deductions, including taxes themselves, as well as other deductions which the IRS allows from taxable income, such as an employee's voluntary retirement plan contributions.

When a party is a salaried employee, review not just the 1040, but the W-2 as well, since that will provide a better breakdown of gross income. There are three income boxes on a Form W-2 Wage and Tax Statement, which may or may not match for a particular employee:

• Taxable Income (Box 1). This is the employee's taxable income, including wages, bonuses, perks, etc. But it does not include pre-tax elective deferrals, such as retirement or health insurance, and for military members, it excludes non-taxable allowances such as BAH or BAS. And since Colorado uses gross income before such deductions for family support purposes, this is often the least reliable box.
• Social Security Wages (Box 3). These are an employee's wages for purposes of Social Security taxes - while more comprehensive than taxable income per Box 1, it also has an income cap, or maximum taxable earnings. So for higher income-earners, this box will understate income.
• Medicare Wages (Box 5). This is usually the highest of the income boxes, since it includes the taxable income from Box 1 without the elective deferrals, and the income from Box 3 without the wage cap. As such, this income box is typically the most useful for child support or maintenance. However, note that for military members, sometimes Box 5 is lower than Box 1, and should not be used. Sometimes that is due to employers paying activated members "differential pay" which is taxable in Box 1 but not subject to Medicare, but here are other reasons, which stump even CPA's, but likely have to do with the "alphabet soup" of allowances military members receive which are treated differently for income tax vs Medicare purposes, as well as deployments affecting taxes.

Normal W-2 excerpt, Box 5 higher than Box 1

Mystery military W-2 excerpt, Box 1 higher than Box 5

SSA Statement for Earnings History

Another great tax document to show a person's historic earnings is their Social Security Statement. which can be downloaded after setting up an account on the SSA website. This is particularly useful when past earnings are relevant, such as:

• One party is seeking to average earnings over several years.
• To prove how little a homemaker may have worked during the marriage.
• To show a person's earning potential, if they are currently unemployed or underemployed.

Excerpt of Social Security Statement showing earnings record.

Business & Rental Income

Note that while Colorado uses gross income as the starting point for maintenance and child support, there is one area where deductions are permitted - business expenses. After all, if a small business owner has $300,000 of gross receipts for the year, but pays $180,000 of it in rent, employee salaries, supplies and other expenses, he really earned $120K.

Colorado's child support statute provides that business income means "gross receipts minus ordinary and necessary expenses."

"(A) For income from self-employment, rent, royalties, proprietorship of a business, or joint ownership of a partnership or closely held corporation, "gross income" equals gross receipts minus ordinary and necessary expenses, as defined in sub-subparagraph (B) of this subparagraph (III), required to produce such income.

(B) "Ordinary and necessary expenses" does not include amounts allowable by the internal revenue service for the accelerated component of depreciation expenses or investment tax credits or any other business expenses determined by the court to be inappropriate for determining gross income for purposes of calculating child support."

C.R.S. 14-10-115(5)(a)(III) (Emphasis added).

The maintenance statute has virtually identical language re: business expenses. C.R.S. 14-10-114(8)(c)(III).

When a party has business income reflected on his Schedule 1, you will also need to review Schedule C Profit or Loss from Business, or if rental income, see Schedule E Supplemental Income and Loss. And look at 1099s.

If a party's closely held business files its own tax returns, you'll need to obtain Form 1120-S U.S. Income Tax Return for an S Corporation, and the Schedule K-1 Partner’s Share of Income, Deductions, Credits, etc

Form 2441 & Child Care Costs

Pursuant to C.R.S. 14-10-115, child care costs are included on the child support worksheet and shared between the parties.

Since day care costs increase the other parent's child support obligation, it can sometimes lead to dubious claims, such as when the same grandmother who loved watching her grandkids for free during the marriage suddenly charges the mother $600/mo for the privilege after divorce.

When a person pays for day care, those costs are required to be reflected on an IRS Form 2441 Child and Dependent Care Expenses. Sometimes a judge will consider the lack of a Form 2441 as an indication that the family member is not really charging for child care.

1040 to Determine Who Claimed Child Tax Credits

As child tax credits can be allocated by the Court (see section below), sometimes a parent may claim the credit for a year when he was not entitled to do so. Proving who claimed for which year is simple with the Form 1040 - just look midway down the first page where children are listed, and if there is a check in Column 4 (Child tax credit), it means that parent claimed the credit for the year.

Excerpt of IRS Form 1040 showing standard deduction & dependents

Gross Income vs Taxable Income for Family Support Purposes

Note that determining a person's gross income from tax returns may only be the starting point. The Colorado definition of income for family support is much broader than the IRS definition, and includes virtually all money received, including tax free payments and gifts.

Tax-Free Income Counts for Child Support and Alimony

People tend to think that if it's not taxable, it's not income. But not only do the child support and maintenance statutes list a variety of receipts which are not taxable, but the Colorado Supreme Court stated the reasoning succinctly:

"We are aware that various sources of income under the statute are treated differently for tax purposes. However, the statute makes no distinction between sources of income based on the federal or state tax codes. Also, because sources of income are "not limited to" the enumerated items of § 14-10-115(7)(a)(I)(A), domestic relations courts would be required to undergo a complex tax analysis to determine income under the guidelines. Such a tortured analysis thwarts the goals of the guidelines and explains why tax definitions are irrelevant to an interpretation of § 14-10-115."

Nimmo, at n.5 (Cleaned Up).

Don't "Plus Up" Untaxable Income

Treating tax-free income the same as taxable income results in some oddities. Consider a person with $2400 in VA disability payments (which counts as income per M.E.R-L.) and a person with $2400 in after-tax salary. They both have the same to spend on their living expenses, but if the party with $2400 after-tax salary is in the 20% tax bracket, his gross earnings were $3000/mo, which is the figure used for calculating child support and maintenance.

So two people with the same $2400/mo after-tax are treated differently from each other. However, under Colorado law a court cannot "plus up" the person with tax-free income and pretend he's making $3000/mo to put him on an even footing with the salaried person:

"the equity of using net income has been questioned because of the differences that can arise from the diversity of tax deductions which may apply in a particular case. Use of the word "actual" in the statute when referring to the gross income of a parent who is not unemployed or underemployed is significant. In our view, the relevant statutes do not authorize a court to impute a gross income. Rather, they reflect the legislative intent that gross income is to be the base upon which to establish the child support guidelines."

Fain, at 1088.

But "Plus Up" Tax-Free Alimony Payments

Note that the law treats tax-free maintenance inconsistently. When calculating child support, if one party is paying the other tax-free alimony of $1000/mo, the alimony is "plussed up" by 25% to $1250/mo for purposes of adding it to the recipient's income, and deducting it from the payor's income. See our blog post about the end of the alimony tax deduction for more details.

Penalty-Free Withdrawals From Retirement Account May Be Income

Taxes determine whether a person should be treated as having income even when she chooses not to withdraw the fund from a retirement account. If a spouse is able to withdraw funds from a retirement account without tax penalty the court has discretion to include the unwithdrawn funds as income.

"If a party may take a distribution from the account without being subject to a federal tax penalty for early distribution and the party chooses not to take a distribution, the court may consider the distribution that could have been taken in determining the party's gross income.”

C.R.S. 14-10-114(c)(II)(E).

Note that this is discretionary, however, and a family law judge is not required to include as income money a party could withdraw tax-free, per an unpublished decision from the Court of Appeals. Coplin, ¶ 15. (See our blog post for a full discussion of the alimony issues raised in the Coplin appeal).

Capital Gains Income is After taxes

In determining capital gains income, courts must deduct the taxes paid (which is, itself, a deviation from how wages are treated, where gross, pretax income is used). .

“We conclude that, in determining the amount of income which the sales proceeds could reasonably be expected to generate, the district court erred in failing to deduct the payment of capital gains taxes. In particular, the court should have calculated the reasonably expected income from each year's sales proceeds from the time husband received them until he actually paid taxes on his capital gains. It then should have calculated the reasonably expected income on the amounts remaining after the date of each tax payment.”

Bregar, at 783.

Child Support Tax Issues

Child Support is Not Taxable

Per the IRS, child support payments are tax-free to the payee, and not tax-deductible to the payor.

Child Tax Credit

The federal tax code has done away with child tax exemptions, and replaced them with a child tax credit of $1000 per child (temporarily it's $2000/child), with a gradual phaseout starting once a parent's income has reached the threshold amount ($75K for single and $110K for married in 2022). 26 U.S. Code § 24.

Per IRS Pub 504, page 10, the custodial parent claims tax exemptions unless there is a court order providing that right to the other parent, and the custodial parent signs off on an IRS Form 8332 Release/Revocation of Release of Claim to Exemption for Child by Custodial Parent. See the Child Tax Credit page on the IRS website for more information.

In Colorado, the child support law provides for the court to allocate child tax credits proportional to the parents' incomes:

"Dependency exemptions. Unless otherwise agreed upon by the parties, the court shall allocate the right to claim dependent children for income tax purposes between the parties. These rights shall be allocated between the parties in proportion to their contributions to the costs of raising the children. A parent shall not be entitled to claim a child as a dependent if he or she has not paid all court-ordered child support for that tax year or if claiming the child as a dependent would not result in any tax benefit."

C.R.S. 14-10-115(12)

Upon request, the family law judge will always order child tax credits shares proportional to incomes, however if no such request is made, and there is no order, then the custodial parent claims the credits. Moreover, just as child support is subject to modification when there is a substantial and continuing change in circumstances, should support change, then the allocation of tax credits is also modifiable. Trout and cases cited therein.

Child Care Expenses - Use After-Tax Amount

Though a parent may pay $1000/mo for child care, per the child support statute only the after-tax cost of child care is included on the child support worksheet: "The value of the federal income tax credit for child care shall be subtracted from actual costs to arrive at a figure for net child care costs." C.R.S. 14-10-115(9)(b). For more information about child care expenses, see our Child Care Inclusion in Child Support article.

Child Support Arrears - Garnish Tax Refunds

In addition to various other remedies available to enforce child support arrears, tax refunds can also be garnished, but only by the state Child Support Services:

• Federal. Pursuant to 42 U.S. Code § 664, federal tax refunds are subject to "offset" for arrears.
• Colorado. Pursuant to C.R.S. 26-13-111 state tax refunds are subject to "intercept" for child support arrears.

Alimony Tax Deduction

Colorado's advisory maintenance guidelines (see our free alimony calculator) only apply to combined incomes below $240,000 per year. That is due in part because higher income cases result in more complicated tax situations, so a cookie-cutter formula is harder to apply. See our Spousal Maintenance article for more details.

Prior to 1/1/2019, alimony payments were tax-deductible to the payor, and taxable to the payee. But to ensure that spouses did not try to disguise tax-free child support or property equalization payments as spousal maintenance to save on their combined taxes, the IRS had a host of complicated regulations pertaining to "alimony recapture" and spousal support which ended near a milestone in a child's life. None of that matters any longer, as the 2017 Tax Cut & Jobs Act changed everything.

Taxable Alimony (Decree Prior to 1/1/2019)

Decrees entered prior to 1/1/2019 are still subject to the old rule, under which alimony was tax-shifting, deducted as the payor's income and taxable to the payee.

• Payor. Deduct the spousal maintenance paid on line 19 of Schedule 1 Additional Income and Adjustments to Income, which requires the total paid, the recipient's SSN, and the date of the divorce decree.
• Payee. Add spousal maintenance to your income on line 2 of Schedule 1 Additional Income and Adjustments to Income, including the total alimony received and the date of the divorce decree.

Note that when the amount of spousal maintenance paid pursuant to a decree issued prior to 1/1/2019 is modified, it remains tax-shifting unless the modification order "states that the alimony or separate maintenance payments are not deductible by the payer spouse or includable in the income of the receiving spouse." See this spousal support clarification on the IRS website.

Tax-Free Alimony (Decree from 1/1/2019 onwards)

For decrees issued on or after 1/1/2019, alimony is not tax-deductible for the payor, nor taxable to the payee. (But, as we explain in our alimony tax deduction blog post, the amount paid is reduced by either 20% or 25% to try to put the parties in a similar position as when it was tax deductible).

FAQ - Tax & Family Support Issues