Divorce and tax rules still maintain an uneasy balance
Sometimes the tax rules lag behind the reality of the situation. Once again, a glaring example of this was imparted to one of our clients this past week.
You might have heard that sometimes marriage leads to divorce. And often there are children involved. Back in the day, the most common situation when there was family breakdown, involved dad leaving the household while mom stayed in the matrimonial home caring for the kiddies. And he usually made some payment that represented a combination of alimony and child support.
The most basic principle of tax policy is that of balance. If one party is taking a tax deduction for some payment, the other party must be including that same payment into their tax calculation. Seems logical, right?
Someone drives for a living and deducts the cost of the gasoline he or she puts in their tank while the oil company includes that payment for that same gasoline in its sales revenues as taxable income.
Anyway, back to our stereotyped example. Dad would pay mom some agreed-upon amount every month and at the end of the year he took a tax deduction for it while she had to include it on her tax return.
The caveat was that the dad could not make any dependant claim for a child in which he was providing support for — in effect negating the opportunity to take a double deduction.
Then in 1995 the Supreme Court held in Thibaudeau v. Canada that including support as taxable income was not a violation of equality rights. The notion of the case was that Suzanne Thibaudeau found it unfair that her higher-income ex-spouse was entitled to deduct his payment to her (and incidentally enjoy a larger tax savings because of a greater marginal tax rate) while she had to support herself and the children at a lower income point and not even enjoy the full payment benefits since it was taxable and resulted in less net dollars to spend caring for the household.
In 1996, the federal government brought in a budget with a number of changes in this area that ultimately resulted in the system we enjoy today. Now support payments are neither deductible nor taxable.
But there is an unfair element.
Today, shared custody is the gold standard. Often we see the separated parents running households in the same neighbourhood with the children shuttling back and forth on a weekly basis, to minimize disruption to their lives. The Child Support Guidelines provide the parties with a mechanism to determine the support payment.
Take, for instance, Bill and Mary. Bill earns more than Mary and the guideline states that Bill should pay Mary $900 and Mary should pay Bill $700 a month. Their two children are in a shared custody arrangement where they live 50 per cent of the time in each household.
If one takes a moment to think about it, the cost of upbringing these children over the course of the year is for the most part split — half the food is consumed in each home and so on. The guideline dictates that Bill pay to Mary $200 a month — the differential.
Mary claims one of the children for the Amount for Eligible Dependant — a significant tax credit. The other child should be eligible to be claimed using the same rule by Bill, since effectively this is the most equitable position, and it’s not the same child being claimed twice.
But the rules do not allow for any personal dependant credits to be claimed for a child in which you make a support payment. Made sense when you were taking a tax deduction for that payment, but not today.
So Bill incurs an additional tax bill of almost $2,400, which realistically means a couple of hundred bucks a month less for the kiddies.
Roger Haineault is with Tax Filers here in HRM. His column appears Saturday.