Spousal Support

From time to time Separation Agreements and the obligations and spousal support payments come under dispute.
It is important to understand tax and other consequences when attempting to change or amend a separation agreement and to include your accountant and lawyer in the process.

When couples experience a break down in their relationship, one of the issues that often forms part
of their separation settlement is financial support. While statements within a written agreement or court
order regarding the tax consequences of support payments can be valuable to clarify the intent, the
actual tax treatment is not established by the contracting parties. Rather, the taxation of payments
under the agreement must ultimately follow the treatment set out in the Income Tax Act (ITA).

When support payments are paid pursuant to a court order or written agreement and are solely for the
maintenance of a spouse or common-law partner or a former spouse or former common-law partner, the
term spousal support typically applies, and payments are deductible by the payor and taxable to the
recipient. Without a court order or written agreement, spousal support payments are not deductible by the
payor nor taxable to the recipient. Understanding the requirements for a payment to be treated as spousal
support is an important consideration because support payments that align with the label of child support
are treated differently for income tax purposes. Child support payments are not deductible by the payor nor
taxable to the recipient under any circumstances.

A spousal support payment must be payable/receivable as an allowance on a periodic basis (e.g., weekly,
bi-weekly, monthly) and for a specific amount (e.g., a specified sum of money either as a fixed amount or a
formula), where the timing of the payment is referenced in the court order or written agreement. The payment
must be made for the support and maintenance of the recipient with the recipient having full discretion as to
the use of the proceeds. Actual payment is to be made to the recipient or to an agent enforcing the collection
of the amount.

While the recipient must have the right to determine the use of the funds, there may be circumstances where
payments can be made to a third party in a way that limits the recipient’s discretionary use of the funds.
In such a case, the payment to the third party must be pursuant to a written agreement or a court order.
Examples of these types of payments could include rent, property taxes, insurance premiums, education
or medical expenses, and maintenance costs for the former spouse’s home.

The term ‘spouse’ means a person to whom the taxpayer is legally married so ‘former spouse’ would
mean a person to whom the taxpayer had previously been legally married. The term ‘common-law’ includes
a person who has cohabited in a conjugal relationship with the taxpayer throughout a continuous period of at
least 12 months, or who is a person who is cohabiting in a conjugal relationship with the taxpayer and is the
parent of a child of the taxpayer. Once individuals fall within the definition of common-law partners, they
are deemed to continue this relationship until they live separate and apart for a period of 90 consecutive
days due to a breakdown of their conjugal relationship. Common-law partners are considered to be separated
when they have been living separate and apart because of a breakdown of their relationship for a period of at
least 90 days.

As much as the rules seem to be reasonably straightforward, there are circumstances where the
taxpayer turns to the courts for decisions with respect to interpreting the income tax rules as they apply to
spousal support.

In the case Dicks v. The Queen, the taxpayer had deducted, as spousal support, a $200 monthly payment
he had made to his former spouse throughout 2015, but was reassessed by the Canada Revenue Agency (CRA)
and denied the deduction. The taxpayer’s separation agreement included details specific to the payment of
spousal support, which provided that spousal support payments of $1,200 would be paid from December
1, 2011 to November 1, 2014 after which time spousal support would terminate.

Another clause in the agreement referred to the fact that after November 1, 2014, there would be no
spousal support maintenance paid and both parties released all rights and claims. There was another clause
in the agreement that provided for a $200 monthly contribution by the taxpayer to an investment account,
as chosen by the taxpayer’s former spouse, that would begin January 15, 2012 and continue until the taxpayer
reached age 60. The taxpayer testified that the $200 monthly payment was made directly to the former
spouse’s bank account and not an investment account,
as requested by the former spouse.

In analyzing the situation, the Court considered the fact that the agreement explicitly stated that spousal
support payments were payable only until November 1, 2014, after which no spousal support would be paid.
Also addressed was the language in the agreement surrounding the $200 monthly payment into the
investment account. The court concluded the payment to the investment account, based on the original
agreement, was not intended by either former spouse to constitute a support payment.

In addition, although the taxpayer suggested that the $200 deposited to his former spouse’s bank account
could be viewed as being paid for the spouse’s personal maintenance, the court concluded that this was
immaterial as the payment to the bank account (instead of the investment fund) was not done pursuant to a
written agreement. As such, the court concluded that the $200 monthly amount claimed by the taxpayer did
not meet the conditions required to be deductible as support payments.

In another recent case, Ross v. The Queen, the court found in favour of the taxpayer who had attempted to
claim $42,000 as spousal support payments in 2015. As background, the taxpayer had claimed $42,000 as
spousal support on his 2015 income tax return, but the deduction was denied by the CRA on the basis that the
payments were not “paid as an allowance on a periodic basis for the maintenance of a former spouse.” The issue
at hand was not a dispute with respect to whether the payments were made to a former spouse, but rather
focused on a payment in-kind and the timing.

In this case, the taxpayer was a lobster fisherman, so was financially reliant on seasonal work. To
accommodate the seasonal nature of the taxpayer’s income and minimize the possibility of missed
payments, the agreement included larger payments in the last quarter of the year. The payments were
structured over a two-year period. One of the payments was detailed in the agreement as a transfer in-kind of
a specific automobile. While unusual, the court found that the in-kind payment was specifically intended to
allow the former spouse to undertake the normal tasks of daily life and did not represent a lump sum capital
payment, which would not qualify as periodic in nature. The court viewed the in-kind transfer as one of
multiple periodic payments to the former spouse.

The court acknowledged that the case presented what it termed as “blurriness” because of “the odd
combination of seasonally necessary payments and a payment in-kind.” Based on the facts presented,
the court decided in favour of the taxpayer, permitting his $42,000 deduction for spousal support.

In the 2018 case, Stewart v. The Queen, the courts addressed the issue of whether a payment made
by the taxpayer to a third party met the income tax requirements for spousal support in order to
be deductible by the taxpayer. The taxpayer had made $2,056.06 in payments to a third party for
health insurance on behalf of his former spouse and subsequently claimed this amount, along with
$15,033.06 paid directly to his former spouse, as a spousal support deduction on his 2015 income tax
return. The CRA denied the deduction of $2,056.06 that was paid directly to the third-party for the health
insurance premium and the taxpayer appealed to the Tax Court of Canada.

In analyzing the issue, the court found that the wording of the couple’s separation agreement required the
taxpayer to increase the amount payable, each month as periodic spousal support, by the amount of the premium
payable by the former spouse to cover her healthcare coverage. For convenience, the former spouse directed
the taxpayer to pay the amount directly to the insurance carrier. The former spouse included the payment
amount in her income as required by the receipt of money classified as spousal support.

In allowing the appeal, the court considered the actions of the couple and found that they clearly intended to
treat this amount as spousal support. To arrive at this decision, the court relied upon prior jurisprudence
whereby “if an agreement is ambiguous or silent, the circumstances in which it was drafted and entered into
and the parties’ conduct after it was signed become relevant in determining that intention and knowledge.”
As such, the courts ruled in favour of the taxpayer and allowed the $2,056.06 to be deducted as spousal
support.

The taxation of support payments is generally well understood, but there will continue to be issues that
will require the courts to weigh-in and settle disputes between taxpayers and the CRA.

COMMENT
Edition 312 – Nov/Dec 2018
for Advanced Financial Education

Disclaimer:

This commentary is published by the Institute in consultation with an editorial board comprised of recognized authorities in the fields of law, life insurance and estate administration.

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Copyright 2018 ISSN 0382-7038

Contributors to this edition:
James W. Kraft, cpa, ca, mtax, tep, cfp, clu, ch.f.c.
Deborah Kraft, mtax, tep, cfp, clu, ch.f.c.