Taxation of Alimony
There is an increasing trend in the number of divorces in India, particularly in urban areas. Generally, there is a division of the property owned by the spouses under the terms of the divorce. In many cases, only one of the spouses is earning, and the spouse who is not earning seeks maintenance from the other, which is called alimony. There may be a large amount that is paid initially, or there may be recurring amounts paid every month, depending on the terms agreed upon.
Alimony can be a one-time receipt or a periodic receipt or a combination of both. It is not specifically covered in 'income' as defined under the Income Tax Act, 1961 ('the Act') and there is no specific provision which governs its taxability.
What is the tax treatment of the assets and the amounts of alimony received under the terms of divorce?
Tax treatment of the assets :
Normally, when an asset is given by one spouse to another, without any payment being received for the asset being given, clubbing provisions apply. For all practical purposes of taxation, the asset and the income from that asset is treated in the same manner as if it were belonging to the spouse who originally held it. So far as the assets received under the terms of divorce are concerned, clubbing provisions would not apply on account of the fact that the relationship between the spouses ceases to exist at the time of divorce. The transfer of an asset by one spouse to another takes effect only at the time when the divorce takes effect, and, therefore, at the point of transfer, the transfer is not to a spouse. For the clubbing provisions to apply, continuity of the relationship of “spouse” is essential. Therefore, even if the assets had been gifted to a spouse during the period in which they were married, once the divorce takes effect, the clubbing provisions cease to apply.
Is the receipt of the asset taxable in the hands of the recipient?
Tax laws have provisions for taxation of certain assets received without consideration, such as immovable property, shares, etc., as income of the recipient. This is basically intended to tax gifts received by a person. The provisions do not state that the consideration should necessarily be a monetary consideration. In a case of divorce, the consideration for the transfer of the asset is the agreement to separate and live apart. Such a transfer cannot be, therefore, said to be without consideration. The one-time receipt of the asset is also not a regular income, but would be a capital receipt, which would not be taxable.
Lump sum alimony :
Basically, an amount is paid as a capital amount, which the recipient spouse can invest, and earn regular income from, which would meet the costs of the person’s maintenance. Such a receipt would again be a capital receipt, which would not be taxable as a regular income, nor as an amount received without consideration, based on the same logic as in the case of an asset received under the terms of divorce.
The fact that such a receipt is a capital receipt and not an income is supported by an old decision of the Bombay High Court.
Monthly alimony, received for maintenance of the spouse and any children who may have to be supported.
Unfortunately, the same Bombay High Court decision referred to above has taken the view that such monthly alimony amounts to an income, the source of which is the decree of divorce. The amount received every month is not necessarily the exact amount matching the personal maintenance expenditure, and, therefore, it is not a mere reimbursement of expenditure. The fact that such monthly maintenance receipts are taxable, needs to be kept in mind by the recipient spouse, as it would reduce the amount available for monthly expenditure.
If, instead of paying the alimony, the paying spouse had merely borne certain expenses, such as the cost of school fees of the children, the rent of the house, etc., such amounts would not have been taxable.
Why should such amounts of monthly alimony be taxable, just because the recipient spouse chooses to have the safety of ensuring that a certain amount of money is received directly every month? Perhaps our tax laws need to change in accordance with the changing times, and such alimony should be made tax exempt, as tax has already been borne in the first place by the paying spouse.