Treasury finds $2.3 Billion of Discrepancies in Alimony Deduction

The Treasury Inspector General for Tax Administration released last week a report detailing the discrepancies between alimony deductions taken and alimony income received. 567,887 tax returns recorded an alimony deduction in 2010, with those deductions totaling over $10 billion. In other words, this deduction is reasonably substantial.

What Treasury found was that 47% of the alimony deductions claimed didn’t match up right with corresponding alimony income reported. In most cases, the deductor indicated the Taxpayer Identification Number (TIN) of a recipient who filed a valid tax return, but there was disagreement on amounts. In some cases, the deductor indicated a recipient who didn’t file a tax return, even though they should have in order to report (at a minimum) the alimony income. Finally, in a handful of cases, the TIN indicated by the deductor didn’t exist at all.

The breakdown of these problem returns are as follows:

Source: Treasury Inspector General for Tax Administration Report

Of course, the vast majority of the errors work in taxpayer’s favor. (This is consistent with other errors taxpayers make, which also tend to work in their own interest.) It is unclear how much of the discrepancy comes from the deductors listing erroneous payments and how much of it comes from recipients failing to report their income.

The alimony deduction is very much a fair, neutral definition of the tax base. The income earned by the payer and sent to the recipient can only be spent by one person, the recipient. If you taxed that income for both the payer and the recipient, it would be double taxation.

The Treasury report had some recommendations on improving compliance, many of which are likely to be helpful. But it is worth mentioning that another solution exists, one that avoids double taxation and makes compliance easier: that would be for the IRS to simply ignore alimony, neither counting it as income nor allowing it as a deduction. The tax reform plan laid out by Rep. Dave Camp earlier this year used this proposal.

Both systems have their merits and their problems, but underreporting can only be a problem in systems that require one to report something. In that sense, the Camp proposal would solve the problem of underreporting completely.