Those who know anything about equine breeding will be familiar with the mule – a hybrid animal that is the offspring of a male donkey and a female horse.1 Mules have been bred since ancient times to be hardy beasts of burden, but despite their hardiness, they have a longstanding reputation for being stubborn. To those who represent clients in the divorce arena, the mule may bring to mind another peculiar hybrid: unallocated support, which, like the mule, is the offspring of two very different animals - maintenance and child support. And like the mule, unallocated support, if not handled carefully, can stubbornly refuse to take the parties where they want to go.
When divorcing parties have minor children, two primary support obligations routinely arise: (1) maintenance, which is governed by Section 504 of the Illinois Marriage and Dissolution of Marriage Act (“IMDMA” or “the Act”);2 and (2) child support, which is governed by Section 505 of the IMDMA.3 Maintenance is awarded to provide for the financial needs of a spouse or ex-spouse; while child support – as its name suggests – is meant to provide for the financial needs of minor children. Modification of these two support obligations is governed by Section 510 of the IMDMA.4 As attorneys handling domestic relations cases are aware, these two separate obligations can be lumped together into one payment, which is referred to as unallocated support. Parties use unallocated support in an effort to reduce their overall income tax burden by having the Internal Revenue Service (“IRS”) treat the entire payment as maintenance for tax purposes. Child support and maintenance are treated differently by the IRS for income tax purposes. Child support payments are not deductible from the paying party’s income and are not treated as taxable income to the receiving party. Maintenance payments, however, are deductible by the paying party and are treated as taxable income to the receiving party.5 By combining maintenance and child support into one unallocated payment, the parties are looking to have the entire payment treated as maintenance and made taxable to the receiving party.
At first glance, one might ask why the receiving party would ever agree to this. Why would a spouse with custody of minor children agree to lump nontaxable child support in with maintenance and suffer an increased tax burden? The reason is that if the party receiving the support payment is in a lower tax bracket than the paying party, the unallocated support payment will be taxed at a lower rate. As long as the actual dollar amount of the support payment is increased to a level that lets both parties share the benefit of the tax savings and puts more after-cash money in both of their pockets, then unallocated support is a worthwhile option to consider.
This sounds like a win-win for the parties and a poke-in-the-eye to Uncle Sam, but before an attorney recommends unallocated support to a client there are a number of important points to consider, which this article shall cover.
Unallocated Support in the IMDMA. Surprisingly, the IMDMA has very little to say about unallocated support. In fact, the specific term “unallocated support” itself does not appear anywhere in the text of the Act.
There are only two fleeting references to the concept in Section 504 of the Act. The first is in paragraph (b-5), which states that “[a]ny maintenance obligation including any unallocated maintenance and child support obligation, or any portion of any support obligation that becomes due and remains unpaid shall accrue simple interest as set forth in Section 505 of this Act.”6 The second reference is in paragraph (b-7), which states, in relevant part, that “[a]ny new or existing maintenance order including any unallocated maintenance and child support order entered by the court under this Section shall be deemed to be a series of judgments against the person obligated to pay support thereunder.”7
Thus, the IMDMA acknowledges the existence of unallocated support obligations, explains how to treat them as series of judgments, and describes how they accrue interest. What the Act does not do is set forth a framework to tell the courts when and under what circumstances to order such obligations. Section 504 specifically authorizes a court to order maintenance and Section 505 specifically authorizes the court to order child support, but it is questionable under what statutory authority a court would be able to enter an unallocated support order absent an agreement of the parties (other than, perhaps, on a temporary basis pursuant to Section 501(a)(3), which is a catchall provision that allows for “other appropriate temporary relief”).8
The IMDMA is silent on how unallocated support will be treated for federal income tax purposes, and for that one must look to Sections 71 and 215 of the Internal Revenue Code (“IRC” or “the Code”).9 Attorneys considering the use of unallocated support should familiarize themselves with these sections of the Code.
Timing of Support Reductions Impacts Tax Treatment. To poorly paraphrase the ancient Greek poet, Hesiod, timing is everything.10 Section 71(c) of the IRC governs the tax treatment of maintenance payments, and a review of its terms makes it clear that the timing of reduction or termination of unallocated support is extremely important in establishing which spouse will bear the tax burden of the support payments. Section 71(c) is an exception to the general rule - set forth in Section 71(a) - that gross income includes amounts received as maintenance. This exception keeps out of the receiving party’s gross income “that part of any payment which the terms of the divorce or separation instrument fix (in terms of an amount of money or a part of the payment) as a sum which is payable for the support of children of the payor spouse.”11 The operative word here is “fix”. Section 71(c)(2) tells us that a payment will be treated as being “fixed” as payable for the support of children, even when it’s not called child support, if the payment will be reduced:
“A. on the happening of a contingency specified in the instrument relating to a child (such as attaining a specified age, marrying, dying, leaving school, or a similar contingency, or B. at a time which can clearly be associated with a contingency of a kind specified in subparagraph (A)…”12
Subparagraph A is clear – if the judgment or order explicitly connects reduction of unallocated support to a child-related event, the amount of the reduction will be treated as child support, regardless of what it is called. Subparagraph B requires deeper digging because it does not define the timeframe or circumstances in which the IRS will consider a reduction to “clearly be associated” with a child-related contingency.
Deeper digging leads to the Code of Federal Regulations, which describes two situations that will create a rebuttable presumption that the support payments (regardless of what they are called) are “clearly associated” with a child related contingency and that the amount of the reduction should be treated as child support for income tax purposes. The first is where payments are to be reduced “not more than 6 months before or after the date the child is to attain the age of 18, 21 or local age of majority,” and the second is where the payments are to be reduced “on two or more occasions which occur not more than one year before or after a different child of the payor spouse attains a certain age between the ages of 18 and 24, inclusive.”13 Thankfully, the convoluted text of this regulation includes a fact-pattern-example of how this language applies,14 but suffice it to say that an attorney trying to time reduction or termination of unallocated support should be armed with a calendar, a calculator and a strong cup of coffee.
Unallocated Support is Always Modifiable. One of the options available to parties and to the court when setting a maintenance obligation is to make the obligation non-modifiable. Section 502(f) of the IMDMA allows the parties to “expressly preclude or limit modification” of maintenance in their settlement agreements, while Section 504 provides courts the authority to award non-modifiable maintenance in gross.15 Illinois courts have recognized that the advantage of non-modifiable maintenance orders is that they allow divorcing parties to “maximize the benefits of future planning and eliminate the uncertainties arising from the fear of future motions to increase or decrease the parties’ obligations.”16
This advantageous option of non-modifiability, however, is lost when unallocated support is used. This is because the unallocated support has a child support component, and Section 502(f) of the IMDMA specifically bars agreements in which parties attempt to limit modification of child support, custody or visitation. Illinois courts have been clear on the point that “where the parties choose to lump maintenance in with child support, creating an ‘unallocated’ support payment, that ‘unallocated’ support payment is, by statute, modifiable.”17 The statute in question is Section 510(a) of the IMDMA, which governs modification of child support.
Increased Complexity of Post-Decree Litigation. In any divorce case involving maintenance and child support obligations, events will occur that give rise to post-decree litigation – specifically, motions to increase or decrease support. Combining maintenance and child support into an unallocated obligation in the original judgment can make this post decree support litigation more complex. This is because the two kinds of support (maintenance and child support) will need to be dismantled at the post-decree stage, and this dismantling can inject more variables into the post-decree litigation. More variables can mean more factual disputes, which, in turn, can mean more complex litigation.
For example: if a divorced couple’s judgment for dissolution has a party making separate payments for maintenance and child support and the oldest child emancipates, the parties can quickly calculate the paying party’s current net income and arrive at a new child support number – assuming the parties agree to follow the minimum guideline support percentages set forth in Section 505(a)(1) of the IMDMA. All else being equal, the matter is theoretically capable of being resolved with very little written discovery, negotiation or litigation.
If, however, the same divorced couple’s judgment has a party making an unallocated support payment, the emancipation of a child is more likely to be the triggering event for a broader salvo of post-decree litigation. The parties, their attorneys and the court will have to determine what portion of that unallocated payment should be treated as child support and what portion should be treated as maintenance. The tax brackets that both parties fall into at the time of modification will also be relevant, particularly if the support payment is going to remain in an unallocated state after modification. This is because equity would dictate that the new payment amount should be set at an amount that allows both parties share the tax benefit of keeping it unallocated versus breaking it up into separate payments of maintenance and child support.
Furthermore, because modification of unallocated support requires an analysis of both the child support and the maintenance component of the obligation, something as simple as the emancipation of a child can cause one or both parties to throw all of the maintenance-modification factors set forth in Section 510(a-5) on the litigation table, including changes in employment status of both parties; increases or decreases in both parties’ incomes; reasonable efforts of the party receiving unallocated support to become self-supporting; property awarded to each party under the judgment and property acquired post-judgment; as well as the dozen factors18 described in Section 504 of the IMDMA. What could have potentially been resolved with a paystub and a tax return under a simple motion to reduce child support could mushroom into litigation requiring extensive written discovery, depositions, and lengthy court proceedings. These costs can be substantial and can easily gobble up the tax savings the parties hoped to accrue by using unallocated support.
Conclusion. The decision to combine child support and maintenance into unallocated support should not be made lightly. For a client to be fully informed as to his or her options, it is important for an attorney to discuss the points described above with the client, preferably with the client’s accountant or tax professional who can run and analyze various tax scenarios. This will ensure that the attorney and the client fully understand the extent of potential tax savings in using unallocated support, and it will ensure that the timing of reduction or termination of the obligation will not interfere with the parties’ goal of having the support payments taxed as maintenance to the receiving party. It will also allow the client to weigh the tax advantages of unallocated support order against the “future planning” advantage of a non-modifiable maintenance order. Finally, it will allow the client to consider the possibility that unallocated support could result in more complex post-decree litigation down the road.
1 The Mule Companion: A Guide to Understanding the Mule, Cynthia Attar, 1993, p. 9
2 750 ILCS 5/504
3 750 ILCS 5/505
4 750 ILCS 5/510
5 26 USC 71; 26 USC 215
6 750 ILCS 5/504(b-5)
7 750 ILCS 5/504(b-7)
8 750 ILCS 5/504; 750 ILCS 5/505; 750 ILCS 5/501(a)(3)
9 26 USC 71; 26 USC 215
10 “Observe due measure, for right timing is in all things the most important factor.” Hesiod, Works and Days, l. 694.
11 26 USC 71(c)
12 26 USC 71(c)(2)
13 Treas. Reg. §1.71-1T(c), Q-18, A-18
15 750 ILCS 5/502(f); 750 ILCS 5/504; In re Marriage of D’Attomo, 2012 IL App (1st) 111670, 978 N.E.2d 277 (1st Dist., 2012)
16 In re Marriage of Adamson and Cosner, 308 Ill.App.3d 759, 765, 721 N.E.2d 166 (2nd Dist.,1999); see In re Marriage of Chalkey, 99 Ill.App.3d 478, 426 N.E.2d 237 (1st Dist., 1981).
17 In re Marriage of Doermer, 2011 IL App (1st) 101567, 955 N.E.2d 1225 (1st Dist., 2011); citing In re Marriage of Semonchik, 315 Ill.App.3d 395, 733 N.E.2d 811 (1st Dist., 2000).
18 750 ILCS 5/504(a)(1)-(12).
Christopher J. Maurer is an attorney with the law firm of Anderson & Associates, P.C., where he has concentrated his practice in family law for over a decade in DuPage, Cook, Kane, Will and Kendall Counties. Christopher is a member of the DuPage County Bar Association. He is a trained Guardian ad Litem and certified Mediator for the 18th Judicial Circuit, and serves as a member of the DCBA Brief’s editorial board. Christopher received his Juris Doctorate from Loyola University School of Law in 1997 and his Bachelor of Science from the University of Illinois at Urbana-Champaign, College of Communications in 1994.