A recent line of tax cases has provided some insight into divorce negotiation tactics with respect to availability of tax credits where child custody is split or shared. Harder v. The Queen, 2016 TCC 197 is one of those cases; it deals with a taxpayer’s ineligibility for a wholly dependent person tax credit and a child tax credit when the taxpayer unilaterally pays child support to a former spouse by way of a set-off arrangement. The divorce negotiation tactic that comes from Harder is as follows: eligible dependent and eligible child tax credits are unavailable to a parent who is unilaterally paying child support. In other words, each parent needs to actually pay child support to the other if they each want to avail themselves of the dependent deductions. This is very helpful information for those who are attempting to navigate the issue of child support payments in drawing up a separation agreement.
Facts in Harder v. The Queen
The spouses separated in 2011. They had two children of the marriage under 18 years of age. The spouses agreed on shared parenting of the two children and resolved all of the issues concerning child support in a written consent filed in the Ontario Superior Court of Justice (Family Court) in August 2012. Because the spouses decided on shared parenting, it was necessary to determine child support obligation of each spouse:
- The Federal Child Support Guidelines amount for two children at the mother’s income was $356 per month.
- The Guidelines amount for two children at the father’s income was $894 per month.
The spouses offset those amounts and agreed on a unilateral payment of $538 per month from the father to the mother. The spouses also agreed that they would each split the child tax credit (each spouse claiming the credit for both children for half of each year) and that each parent would claim one of the children as an eligible dependent each year.
Despite the spouses’ amicable agreement on the issues, the Minister’s reassessment disallowed the father’s claim for the 2012 dependent deductions. The father unsuccessfully appealed the disallowance of the non-refundable tax credits. The court was sympathetic to the father’s appeal, but the law was clear that the deduction was not allowable given the factual scenario. Past decisions of the Tax Court of Canada and the Federal Court of Appeal have consistently rejected arguments based on shared custody arrangements involving net support payments governed by the Guidelines.
Child support and dependent deductions: The relevant Income Tax Act provisions
- Subsection 118(5) of the Income Tax Act, (R.S.C., 1985, c. 1 (5th Supp.)) provides that the tax credits are not available for a child in respect of whom the taxpayer has paid child support to a spouse or common-law partner or former spouse or common-law partner in the relevant taxation year.
- Subsection 118(5.1) of the Income Tax Act provides that the limitation in subsection 118(5) will not apply in cases where it would operate to deny the credit to both parents. Where subsection 118(5.1) applies, one would look to paragraph 118(4)(b.1), which provides that, if both parents are entitled to the tax credits, they must agree on who will claim them on an annual basis.
Subsection 118(5.1) prevents the loss or non-utilization of a dependent deduction, but only where both parents factually pay to the other an amount of child support. A set-off arrangement such as the consent agreement in Harder does not satisfy the requirements of the exception contained in subsection 118(5.1).
Divorce negotiation tactic to secure availability of dependent deductions for both parents
Given that a set-off arrangement does not suffice, an essential divorce negotiation tactic is understanding what type of arrangement will allow each parent to claim the tax credits. The court in Harder discussed child support arrangements where the dependent deductions would be available for both parents (at para. 9):
What constitutes actual or factual payment by both parents to each other has been enunciated to include child support, in the case of split custody (as opposed to shared parenting), where each parent paid a support amount when the child was in that parent’s care (Rabb v R., 2006 TCC 140 (CanLII)). Implicitly, it likely also occurs in shared parenting arrangements where the court order references actual payments to be made by each parent to the other (by way of obiter dictum in Ochitwa v R., 2014 TCC 263 (CanLII) at paragraph 14). Lastly, the dependent deductions are available where the parents adjust child support payments based upon further arising expenses, then distinctly pay the moneys to the other and reflect these amounts in a clear, written agreement mandatorily obligating such payment […]
So, to ensure that deductions will be allowed for each parent, the key divorce negotiation tactic is a mandatory requirement for each parent to pay an amount reflected in a court order or formal agreement, along with conclusive evidence of actual payment being made. The court in Harder discussed the type of evidence that would support a claim for the dependent deductions by both parents (at para. 11):
[…] The engagement of the combined effect of subsections 118(5) and 118(5.1), at a minimum, requires a comprehensive documentary and evidentiary record. If separating spouses, seeking joint custody, wish to avail themselves of a dependent deduction for both spouses in such situations, surely family law lawyers can deploy their usual flexible skills to ignore the set off provisions within the paradoxically named “Divorce Mate” for a brief moment and mandate and effect actual periodic payments by both spouses to each other in cases of shared parenting of two or more children. Surely cheques, or even their more modern replacement of recurring e-transfers, may evidence a clearly enumerated, reciprocal and mandatory support amount paid by each spouse to the other.
Take home point on divorce negotiation tactics concerning tax credits
All of the usual stressful, difficult and emotional issues relating to child custody, financial support and raising a family within the constraints of marriage breakdown can be lessened by using effective divorce negotiation tactics. As the Harder case illustrates, there are important tax implications to consider when negotiating child support. If separating spouses, seeking joint custody, wish to avail themselves of a dependent tax deduction for both spouses, both spouses must factually pay to the other an amount of child support. A set-off or unilateral payment of a child support amount by only one parent to the other will not suffice for the purposes of the Income Tax Act.