How to Calculate Lump Sum Spousal Tax Payment

K

KW_Divorced

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Here is a clause in my Court Order:

"The sum of $XX,XXX, payable on or before MMM-DD-YYYY. This Amount shall be included in the Applicant's income and shall be deducted from the Respondent's income for income tax purposes pursuant to sub-sections....of the Income Tax Act."

"The Respondent shall indemnify and save the Applicant harmless with respect to any income tax that she is obligated to pay as a result of the spousal support payment of $XX,XXX as set out in section (above)."

"The Applicant and Respondent shall exchange any supporting documentation necessary to substantiate the tax amount owing by the Respondent to the Applicant"

I am the respondent and have paid the amount as per the Court Order and have claimed it as a deduction, which the CRA accepted.

We are now having a dispute as to the actual tax amount owing to my ex (Applicant):

She claims that as a result of the lump sum payment, it increased her overall taxable income that pushed her into a higher tax bracket, and therefore I owe all her tax owing amount for 2018. She sent me her tax return without the lump sum and one with. She then looked at the tax differences between her two returns and claims I owe that amount...rather sizable portion.

My lawyer and I disagree. We both believe that all I need to indemnify her from is the tax that is owed ONLY on the lump sum amount. In other words, take her average overall tax rate and multiply the lump sum payment by the tax rate and I have the tax amount owing...which is considerably less.

My lawyer said the language was very standard for this clause and is always meant to pay the tax amount ONLY for the lump sum.

who is right in this case? Thought I would ask the experienced folk on this board...and thanks.
 
you and your lawyer are correct.

"The Respondent shall indemnify and save the Applicant harmless with respect to any income tax that she is obligated to pay as a result of the spousal support payment of $XX,XXX as set out in section (above)."

Your ex will just have to cut back on a few Louis purchases.
 
I don’t know about that Arabian.

I think she has a very good case to say that it’s the increase in taxes that she has to pay as a result of the lump sum payment- being the amount that her taxes increased as a result.

Who drafted the separation agreement? Who was responsible for that section.

The general rule of contract interpretation is that any ambiguity in the clause goes against the drafter of the clause. Because they were the one who could have refined the language to eliminate the vagueness.

If the clause was only meant to be interpreted as the tax on the amount of the lump sum payment- it should’ve been written that way. But it wasn’t...

It says that you will indemnify her for the taxes she has to pay as a result of the lump sum payment. Well she has to pay a higher amount of taxes as a result of the payment. Therefore she has a very valid argument.

If your lawyer is saying it’s standard language and *everyone* knows it’s supposed to mean your interpretation, ask him for the leading case law authority to back that up.

Just because “standard” language gets used in agreements, does not mean it’s actually good or valid language.
 
It is up to his ex and her lawyer to factor in her tax position prior to agreeing to SS. IF she had competent counsel, this (her tax position) would be one of the most basic items to argue prior to arriving at an amount. In my situation, it was the judge who raised this matter, and then discussion ensued.
 
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The language was drafted by both parties and refined by the judge herself when creating the court order.

Lump sum retro spousal payments can be tax deductible as per the language in the Court Order. i have already filed my taxes claiming that lump sum amount and the CRA accepted it and already received my refund.

My lawyer said I cannot be held liable for any other increases in income that caused the spike in her overall tax payable. So if she obtained a much higher paying job during that time (and she did), I cannot be held responsible for her complete tax owing amount.
 
Family Law Judges, there Orders and Seperation Agreements can not, and do not, trump CRA tax law - it is not their jurisdiction (see also: seperation date, pension splitting, and CCTB issues people have had).

I would get a second option from an Accountant as this is significant money and CRA usually automatically processes Returns and only later goes back to Audit and request money be refunded. Perhaps everything is fine, as you say, but for the $50-100 from a professional you would know. You also can call CRA themselves to ask.

Otherwise, I agree with Iona that the wording is that you are responsible for the difference between her taxes owing on the return prepared without the lump sum and the taxes on the return with the lump sum.
 
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arabian said:
It is up to his ex and her lawyer to factor in her tax position prior to agreeing to SS. IF she had competent counsel, this (her tax position) would be one of the most basic items to argue prior to arriving at an amount. In my situation, it was the judge who raised this matter, and then discussion ensued.
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Maybe they were quite competent and worded the clause purposely. It's completely plausible they worded it the way they did on purpose.

If you're debating competency- I'm looking at the OP's lawyer and wondering why they didn't specifically word the clause as:

"The sum of $XX,XXX, payable on or before MMM-DD-YYYY. This Amount shall be included in the Applicant's income and shall be deducted from the Respondent's income for income tax purposes pursuant to sub-sections....of the Income Tax Act."

"The Respondent shall indemnify and save the Applicant harmless with respect to any income tax that she is obligated to pay [remove: as a result of] only on the spousal support payment of $XX,XXX as set out in section (above)."

That's what I would do in a contract negotiation. This is the same thing.
 
If both parties were responsible for the drafting- and therefore the ambiguity or vagueness. I would split the difference between the amounts and call it a day.
 
KW_Divorced said:
The Respondent shall indemnify and save the Applicant harmless with respect to any income tax that she is obligated to pay as a result of the spousal support payment of $XX,XXX as set out in section (above).
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It should have read:

The respondent shall indemnify the applicant against any income tax she is obligated to pay ON THE SPOUSAL SUPPORT PAYMENT OF...

I think she is right because as a result of the payment means bumping her income up to the higher bracket. The problem is that your agreement says “any income tax she is obligated to pay as a result of...”

Your lawyer will tell you what you want to hear and an ensuing battle earns him money.
 
Well my lawyer won't be representing me if it goes to that, and I will send him my bill for the tax difference as he has misled/misrepresented the tax impact to me...in writing.

There has to be protection for those of us who pay these lawyers huge amounts of money to represent our interests, and they fail at that and get away with collecting huge fees with NO downside impact to them.

I am simply fed up with this process. 7+ years and STILL going on...with no end in sight.
 
Just thinking here:


If the lump sum SS payment was $30,000 and ex's income was $70,000, the jump in tax brackets would not impact the original $70k. All inflated taxes owing would be a direct result of the $30k would it not? The $70k is static, the only variance involved is the extra SS payment. The income tax rates on the lump sum SS would start at the $70k marginal rate, and go up from there as her income crosses the various tax thresholds.


That is how I read it. I don't think the ex's marginal rate would start at $zero given the way the clause reads.
 
KW_Divorced said:
Well my lawyer won't be representing me if it goes to that, and I will send him my bill for the tax difference as he has misled/misrepresented the tax impact to me...in writing.

There has to be protection for those of us who pay these lawyers huge amounts of money to represent our interests, and they fail at that and get away with collecting huge fees with NO downside impact to them.

I am simply fed up with this process. 7+ years and STILL going on...with no end in sight.
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On the other hand, anyone who opens themself to tax implications absolutely should speak to an accountant about these types of clauses. An accountant (specifically a tax accountant) would be able to give full advice on tax implications, benefits, deductions etc. The way I look at it is, you paid a lawyer $20,000 to get divorced, paying $200 to protect your remaining assets is a small price.

If anything I would suggest you speak to an accountant now and ask the question if the spousal support roll over is what is impacting it. If it is, you may want to ask if anything could be done to fix it like depositing it in an RRSP or something.

To me this is much like people who get a severance or buy out, go buy a boat or fancy new car and then don’t realize the tax implications when April 30 comes around. She may have been able to protect herself by doing that which would be an excellent argument against paying her tax bill.

Also, your lawyer will ignore your demand to pay it. That’s part of their indemnification when you sign off. If a judge agreed with the language that was modified, it was done in accordance with the law and there is probably a fine print statement in your retainer contract.
 
Thanks all as usual for your useful comments and feedback.

I have the funds to pay her tax obligation (even the high amount she is claiming), and my intent was always to indemnify her tax obligation ONLY on the payment. So if need be, I can suck it up and pay it all and be done with it, which is what I will likely do to avoid another lengthy battle.

Will be worth paying several thousand more and will save myself legal fees and stress anyway.
 
As an accountant and well versed in tax accounting, I feel I am qualified to answer this post. This is a classic case of what I have complained about for years. Lawyers and Judges do not understand financial implications and therefore give bad advice to the public. Your first post clearly demonstrates that your lawyer and you do not understand it. Here is the relevant quote "We both believe that all I need to indemnify her from is the tax that is owed ONLY on the lump sum amount. In other words, take her average overall tax rate and multiply the lump sum payment by the tax rate and I have the tax amount owing...which is considerably less."

That is not the way our tax system works...

Lets take an example. I don't have my tax spreadsheets with me so the figures I give you are approximate

On a 100,000 income, an average tax rate is about 25%. However the marginal tax rate (the amount of tax you pay on every additional dollar of income) would be about 40%. This is because of our progressive tax system. You act like you are paying a flat tax. Without being disrespectful, it sounds like none of the 5 of you (you, your lawyer, her, her lawyer and above all the Judge) did not understand the tax implications. Based on the wording of the clause, the additional tax payable should be calculated on her marginal tax rate not the average tax rate. Your last post is what you should do.

Just pay it and be done with it. It will cost you more in legal fees than its worth and there is a good chance you could lose.

Accountant.
 
Desperate_Dad said:
As an accountant and well versed in tax accounting, I feel I am qualified to answer this post. This is a classic case of what I have complained about for years. Lawyers and Judges do not understand financial implications and therefore give bad advice to the public. Your first post clearly demonstrates that your lawyer and you do not understand it. Here is the relevant quote "We both believe that all I need to indemnify her from is the tax that is owed ONLY on the lump sum amount. In other words, take her average overall tax rate and multiply the lump sum payment by the tax rate and I have the tax amount owing...which is considerably less."

That is not the way our tax system works...

Lets take an example. I don't have my tax spreadsheets with me so the figures I give you are approximate

On a 100,000 income, an average tax rate is about 25%. However the marginal tax rate (the amount of tax you pay on every additional dollar of income) would be about 40%. This is because of our progressive tax system. You act like you are paying a flat tax. Without being disrespectful, it sounds like none of the 5 of you (you, your lawyer, her, her lawyer and above all the Judge) did not understand the tax implications. Based on the wording of the clause, the additional tax payable should be calculated on her marginal tax rate not the average tax rate. Your last post is what you should do.

Just pay it and be done with it. It will cost you more in legal fees than its worth and there is a good chance you could lose.

Accountant.
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I agree with how tax is calculated. This is a lump sum, one time, SS payment. Surely that would have been taken into consideration prior to making the order?
 
I am well aware of our graduated tax system here in Canada and how this affects every dollar earned and what tax amount is owed.

Arabian, I think your point is spot on when we are dealing with a single lump sum payment of retroactive spousal support. The challenge here is to determine what tax rate to apply to this single payment.

From my lawyer's standpoint (and he consulted with their in house tax counsel), he said there are other sources of income (including spousal support already paid to her with appropriate tax treatments applied), along with other incomes that I have no control over that would increase her marginal tax rate. For this, I should not be penalized in terms of having to indemnify her for all of that tax impact also.

So it was suggested to use the blended (or average) tax rate based on her taxable income and use that amount to calculate the tax indemnification amount for that single, one time lump sum payment.

I heard from my lawyer again on this issue and he stands by his advice and direction.
 
I would wager any amount of money that it wasn't taken into account. His first post suggests they took the average tax rate which is wrong.

Stupid lawyers
Stupid judges

When Bonkalo asked the public to comment how to improve Family Court, I recommended there be a complete ban on lawyers and judges in court till they learn how to analyze financial information (and I wasn't kidding either) and to bring in accountants.

My recommendation wasn't heeded and they instead decided to bring in cheaper incompetents (paralegals) which will make things worse.
 
KW - Yes of course there are other income payments and deductions that could affect her marginal tax rate. We don't know what was agreed to but clearly your ex did not understand it and your agreement does say you will indemnify her for the tax she has to pay. And clearly she is paying a higher marginal tax rate than was calculated otherwise she wouldn't complain.

Did nobody explain this to her?????
 
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