November 2014 : Estimated Tax Payments Part II: Requirements for Spousal Support Recipients to Make Payments–Trap for the Unwary

Michigan Family Law Journal : TAX TRENDS AND DEVELOPMENTS Feature

by Joseph W. Cunningham, JD, CPA

Excerpt:

Last month’s column covered the need for divorce attorneys to appropriately “capture” as a marital asset estimated taxes paid or withheld in excess of the actual tax liability for the final year of the marriage, or part of a year, as the case may be.

There is also a need for spousal support recipients to be aware of requirements to make federal and state estimated tax payments on alimony income. Unlike with wages and salaries, tax is not withheld on spousal support payments. And, it is not uncommon for newly divorced spousal support recipients to be unaware of the obligation to make estimated tax payments on alimony income.

For federal, state, and, where applicable, city income tax purposes, estimated tax payments are due by April 15, June 15, September 15, and January 15 of the succeeding year. Forms 1040ES and MI 1040ES are used for this purpose for federal and Michigan estimates.

A consequence of not making required estimated tax payments is an underpayment penalty. In addition, of course, it may also result in an unexpectedly large tax liability when April 15 rolls around.
Two exceptions to the imposition of the underpayment penalty are:

1. The total of tax withheld and timely made estimated tax payments exceeds 90% of the current year’s tax liability.
2. The total of tax withheld and timely made estimated tax payments exceeds 100% of the prior year’s tax liability.

Example 1 – 90% of Current Year Tax Exception

• W has annual W-2 earnings of $30,000 and receives spousal support of $4,000 a month.
• Withholdings of $3,500 more than cover the tax on her $30,000 W-2 income (after reducing same by the standard deduction and exemptions). But, her federal income tax on the $48,000 of alimony income is $10,000 (all taxed at a higher bracket).
• W should make federal estimated tax payments of $2,500 quarterly to avoid being subject to the underpayment penalty. She should do the same with respect to her state tax on the alimony income, and her city income tax, if applicable.
• If she does, her $13,500 combined federal tax withheld and timely made estimated tax payments will exceed 90% of her current year tax liability.

Example 2 – 100% of Prior Year Tax Exception in First Year After Divorce
……

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)