Alimony recapture is a trap for the unwary. Years ago, it was designed to ensnare crafty taxpayers who tried to take advantage of the tax deduction by calling payments alimony when they were actually dividing marital property. Imagine the creative divorce settlements you could engineer if the tax deduction for alimony applied to marital property distribution. Under § 71(f) of the Tax Code, there is a formula to determine if alimony is “front-loaded.” If it is front-loaded, the tax deduction will be recaptured in the third post-separation calendar year.
To remember the alimony recapture rule, get in the habit of calling it “the three-year front-loading” rule. The recapture is triggered whenever there is a sharp reduction of alimony in the second or third post-separation calendar year. Family lawyers have to be careful when crafting a divorce settlement in which alimony is paid entirely or mostly in the first year or two after divorce. The payor can get an unpleasant surprise from the IRS – if the payments violate the alimony recapture rule.