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5 Settlement Documents that Divorcing Business Owners Must Have

by bvertz on Jun 8, 2011 • Comments Closed • , , , , , , , , , , , ,

When business owners get divorced, their settlement may have profound consequences for the business and other owners. Often, one spouse “sells” or gives up a share of the business to the other spouse. Since most small business owners do not have enough cash to pay a lump sum for that share, they might have to make installment payments over months or years. It is critical to structure the divorce settlement properly with documents that will minimize tax consequences, quantify and secure the payments to be made to the spouse who is leaving the business, and preserve the company’s ability to operate and obtain financing. These are the top five documents that a business owner should have when finalizing a divorce where a spouse is “selling” his or her share of the business to the other spouse:

1. Marital Settlement Agreement. Divorce courts rarely issue orders containing sufficient detail to adequately protect business owners who are divorcing. Settlement provides the best opportunity to resolve important financial and tax issues that a divorce court might overlook. A settlement agreement should contain a clear description of the stock, partnership or LLC membership units, and other business interests being sold or waived, how much is being paid, when it is being paid, and what happens if the payments are not made in full and on time. Unincorporated associations are tricky because their assets and liabilities are often intertwined with the owners’ personal assets and liabilities, so be as clear as possible. When setting the price, the business owner must consider whether the price is consistent with the value reported to tax authorities for estate planning purposes. The spouse who is making payments might be required to maintain enough life insurance, retirement assets, or investments to pay off the obligation in full upon death or default. The other documents related to the sale of the business (installment note, security agreement, etc.) can be attached to the marital settlement agreement and signed at the same time.

2. Installment Note. The installment note states the price that a business owner must pay for a spouse’s share of the business, the timing and amount of each installment payment, and the consequences for late payments or default. If the payments will be made over a period of years, the note might include interest (particularly for late payments). An acceleration clause might make the entire balance due immediately upon sale of the business, death, bankruptcy, or other major events. In some jurisdictions, a confession of judgment clause might avoid the delay and expense of a collection lawsuit if there is a default. The majority owner might be required to provide a personal guarantee. The note can also be secured by a mortgage against real estate or lien on business assets, such as equipment and receivables.

3. Mortgage/Security Agreement. An installment note can be secured by a mortgage against real estate or lien on business assets, such as equipment and receivables. The lien against business assets can be recorded publicly by filing a UCC-1. In some cases, the business might want to subordinate the mortgage or security agreement so that trade creditors and lenders who demand higher priority will not withdraw their credit.

4. Pledge of Stock. A pledge agreement creates a lien on the stock of the business. The pledge agreement might contain representations and warranties about the financial condition of the business or give the selling spouse a right to vote the pledged stock or inspect the books until paid off. If dividends or distributions are paid, the pledge agreement might direct the proceeds to be paid toward the loan. The pledge can also restrict the sale, gifting or dilution of the stock.

5. Consent and Waiver. If the business owners have previously signed a buy-sell agreement or right of first refusal, giving the company or other owners a right to buy their shares, then they should probably obtain the consent of those other owners before transferring stock between themselves. A consent and waiver confirms that the company and other owners will not exercise their rights when divorcing spouses transfer their stock.

Divorce – Your First Legal Strategy Decisions

by bvertz on Feb 17, 2011 • Comments Closed • , , , , , , ,

The initial weeks of a marital separation are probably the most turbulent, uncertain part of the divorce process. The first few choices that spouses must make when they are contemplating divorce are important legal strategy decisions that require thoughtful consideration. Your divorce lawyer can help to assess the risks and possible consequences of those initial decisions.

1.   Move out or stay put? Pennsylvania doesn’t recognize a legal separation as some states do. Still, it is possible to be separated in the eyes of the law while living together under the same roof. A spouse who moves out must decide where to move, whether to take the children or property, and how the move might affect finances and custody arrangements. Spouses who stay put must be prepared to pay expenses for the marital residence during the separation period, as well as the possibility that the other spouse might refuse to move away, creating an uncomfortable standstill.

2.  File divorce or wait? Filing a divorce action is important in some cases where there is a need for the court’s assistance in freezing bank accounts or credit cards, obtaining financial records, or seeking exclusive possession of the marital residence. On the other hand, there may be a financial advantage in simply collecting support during the separation period without starting a divorce battle.

3.  Attempt reconciliation or stay apart? Repairing a broken marriage isn’t easy, but some have done it. Still, attempting to reconcile may have unintended legal consequences that must be considered. Reconciliation might delay the official separation date, which affects the value of marital property and the ability to finalize a divorce. The law generally does not permit spouses to have it both ways by preserving a separation date while attempting to reconcile. Some couples sign post-nuptial agreements to settle their financial disputes in case their reconciliation does not work out.

4.  Withdraw funds or leave them? Joint bank accounts and credit cards are common battlegrounds in the initial phase of divorce. Making withdrawals from joint accounts or charges on joint credit cards might be viewed as a hostile tactic, but a spouse who would otherwise be penniless might have no other choice. Conversely, raiding a joint account might deplete the good will needed to work out a settlement.

5.  Who to trust? Trust is one of the first casualties of divorce, so you need to find reliable allies. Consider supportive friends and family members who are able to keep your confidences and empathize with your feelings. Physical activities like exercise can reduce stress more effectively than alcohol or junk food. Hire a family lawyer that you feel comfortable with. It is important to understand what your lawyer is saying and to be heard when you speak to your lawyer. Consider lawyers who concentrate their practice in divorce and know the nuances of this complex area of legal practice.

Iowa Rejects Rule of Thumb Business Valuation in Divorce

by bvertz on Feb 11, 2011 • Comments Closed • , , , , , , ,

A recent decision of the Iowa Court of Appeals illustrates the perils of reliance upon industry rules of thumb to value a business in matrimonial litigation. In Marriage of Hagar (11/24/2010), husband and wife purchased a dry cleaning business from a trust established by husband’s parents as part of a business succession plan. Husband and wife agreed to a $300,000 purchase price that was determined by the companies’ accountant. The trust took a promissory note for the purchase price. The opinion does not describe the technique by which the accountant estimated the company’s value, but there were adjustments to normalize the excess rent and excess interest paid by the dry cleaning business to the real estate company (which the parents’ trust continued to own).

Over the years, the dry cleaning business struggled. The payment terms were modified to maximize the seller/parents’ tax benefit and to accommodate the buyers’ inability to pay the notes. For instance, the dry cleaning business began to make quarterly distributions to pay the notes in lieu of salaries for husband and wife. When husband and wife separated, the distributions ceased entirely. The promissory note from husband and wife to the trust was reduced from $300,000 to $160,000 over the course of the marriage.

In the equitable distribution trial, the company’s accountant estimated the current value of the operating company based on industry rules of thumb. He testified that the range of values was between $71,000 and (-$120,000). He further testified that his range of values was not based upon his professional judgment, but simply an application of industry rules of thumb.

The trial court misconstrued the accountant’s testimony, finding that the business was worth the mid-point between $120,000 and $71,000. On appeal, the Court of Appeals held that a better measure of value was the equity created by the buyers’ paydown of the note: $140,000. The appellate court held that rules of thumb are too unreliable in cases where insider/family transactions might skew the data used in the calculation. An actual transaction, such as the husband and wife’s purchase of the business less than ten years prior to the trial, was deemed more reliable.

Divorce and Guns – Can They Backfire?

by bvertz on Jan 28, 2011 • Comments Closed • , , , , , ,

A recent decision by the Superior Court of Pennsylvania, Smith v. Yusavage (unpublished), got me thinking about the problems surrounding gun ownership for spouses facing marital separation or divorce.

In Smith, one of the unmarried partners filed a Petition for Protection from Abuse (PFA) seeking a restraining order and eviction from their shared residence. Most of the allegations of abuse sound like the kind of shouting matches that might occur from time to time in many relationships. One striking feature of the testimony, however, was that one of the partners applied for a concealed weapons permit, and the other partner would not support the application because of safety concerns. This evidence, in my mind, seemed to convince the judge to issue the restraining order. The Superior Court affirmed.

(In an interesting side note, the Superior Court refused to consider the arguments made in pages 71-122 of the defendant’s brief because they exceeded the 70 page limit imposed by appellate procedural rules.)

I have seen cases where firearms mysteriously disappear after a marital separation, probably because they have been disposed by a spouse who is fearful. More than once I have heard of valuable guns being thrown into the trunk of a car without proper care and handling, diminishing their value. And Smith demonstrates that judges might be cautious about guns and their owners in the context of heated marital disputes.

My advice: if you are facing marital separation or divorce, consider whether to store the guns in a locker at a sporting club or a gun dealer, away from the marital residence. At the very least, if you keep them in your home, be sure they are properly stored under lock and key, away from children, where they do not present a threat to anyone. Your guns can be used against you, even if they are never fired. If the guns are registered in your name, and your spouse disposes of them improperly, could you be connected with their misuse in someone else’s hands? Will improper gun storage have an impact on your custody request? Can you satisfy a judge that there is no chance that your guns could be used to harm anyone? These questions are worth considering.

10 Cash Flow Rules In Divorce (Part I)

by bvertz on Sep 28, 2010 • Comments Closed • , , , , , , , , ,

In business, they say, cash flow rules. The same principle is true, I find, in divorce. I have been brainstorming a set of cash flow “rules” for divorcing spouses. Here is part one:

1.  Never run out of cash. My #1 divorce rule is the as Inc Magazine‘s #1 business rule. In divorce, there is a period of time immediately following separation when a divorcing spouse’s cash flow may be particularly vulnerable. Spouses who are not working need to know that litigation might drag on for weeks before the support payments will begin. In order to meet routine financial obligations (bills, loans, credit cards), divorcing spouses should be sure to have a two months’ supply of cash before separating.

2. When it is impossible to increase income, reduce spending. Some divorcing spouses expect to preserve the standard of living they have always enjoyed, but it is just not possible.  In fact, the law does not guarantee it.  Our judges know that two households cannot be run as cheaply as one, so it is necessary to cut corners. Many families are living beyond their means or just scraping by. Divorce did not create the problem and cannot solve it. If your cash flow is not enough to pay the expenses, you must reduce expenses.

3. House-poor or pension-poor is just plain poor. Liquidity is a valuable resource. Some divorcing spouses insist on keeping a house or pension instead of assets that can be converted to cash more easily. Kids can’t eat a house. A pension won’t pay the light bill if you are 45 years old. Even though you may have worked your whole life to earn that pension or create a great home for your kids, you might be better off trading it away or selling it to generate cash that will pay the bills. You will sleep better at night.

4.  Credit borrowing does not equal cash flow. Loans and credit cards are temporary – and very expensive – ways of dealing with inadequate cash flow. By borrowing, you may be digging a deeper financial hole for your future. Do not borrow unless you have a sure means of paying off the loan or credit card within a year or less.

5.  Build earning capacity. We have all heard the story about the father who is refusing overtime at work so that he will not have to pay more child support or the mother who is waiting until the divorce is concluded before she returns to college. It might seem like an attractive strategy, but it always backfires. The sooner that you enhance your cash flow, the sooner you will restore your financial stability.

Judges are Deciders, not Investigators, in Divorce Litigation

by bvertz on Sep 16, 2010 • Comments Closed • , , ,

A recent post on BVLaw (culled from the materials for the BVR Summit on Business Valuation in Divorce, going on now in Chicago) reminds us that pre-trial discovery and preparation are essential tasks in divorce litigation which must be conducted by the parties, with the assistances of their lawyers and experts, not the court:

Speaking at this morning’s BVR Divorce Summit, Judge Thomas Zampino gave some excellent advice for matrimonial lawyers.  ”I’m not going to go out and find all the assets that are hidden under the bed.   And, I’m not going to determine what they’re worth.   You don’t want me doing that.  But, my job is to narrow the field of answers, and then divide the assets as best I can.”

Judge Zampino’s comments are his opinion, of course, but many judges feel the same way. The court has no power, authority or resources to perform the investigation and valuation functions that are necessary to an equitable result. Lawyers, experts and their clients must do this work before it is time to settle or litigate the case. Judge Zampino also made the interesting observation that he can feel more confident about making a decision on how to divide property if there is not a wide gap between the opposing experts’ opinions. In some cases, we allow the experts to confer with each other in advance to identify the similarities and differences between their opinions. This often leads to a stipulation, or agreement, on the value of a business. Even if it does not, the experts may be better prepared to show the judge why their opinions differ and convince the judge to adopt the “right” answer.

Lump Sum Divorce Payment: Exempt Property in Bankruptcy

by bvertz on Sep 9, 2010 • Comments Closed • , , , ,

In Re Miller, 424 B.R. 171 (M.D. Pa. 2010)

Wife/Debtor filed a chapter 13 bankruptcy petition, in which she attempted to classify an “income maintenance award” of $88,500 received in a divorce decree as property exempted from the bankruptcy estate.  The divorce decree provided that Wife was to receive $88,500 cash in order to effectuate a 67%/33% division of marital property.  Next, Wife’s former divorce lawyer filed a proof of claim for unpaid legal fees and objected to Wife’s schedule of exemptions, claiming the lump sum cash award was not exempt under 11 U.S.C. § 522(d)(10)(D).  The Chapter 13 Trustee also filed objections to Wife’s exemptions, asserting the same grounds as her former lawyer.  Wife and her former lawyer stipulated that the forty-seven page report by the divorce master was incorporated into the divorce decree at issue.

In the report, the divorce master specifically stated that the husband’s obligation to Wife was for “necessary living expenses, including the mortgage, taxes, insurance, and upkeep on the marital residence” and that it “‘should not be dischargeable in bankruptcy.’” In awarding 67% of the marital property to Wife, the master found Wife had no job skills, and at the time, was making $1,300 per year cleaning houses.  The master awarded Wife alimony for the period of two years so that she could obtain additional education and employment during that time.  At the time when the matter came before the bankruptcy court, however, Wife had not received additional education and was not employed.

The bankruptcy court began its’ analysis with a discussion of 11 U.S.C. § 522(d)(10)(D), which provides “alimony, support or separate maintenance, to the extent reasonably necessary for the support of the debtor and any dependent of the debtor…may be exempted under subsection (b)(2) of this section.”  The court noted exemptions are broadly construed, and the burden is on the party objecting to the exemption to prove the exemption is not available. The court considered three possible approaches to determining whether the obligation in Wife’s divorce decree was in the nature of support.

The court first considered In re Gianakas, 917 F.2d 759 (3d Cir. 1990), which held that federal law, not state law, determines whether a divorce obligation is in the nature of support, maintenance or alimony. The Third Circuit in Gianakas set forth a three-part test to determine the nature of whether an obligation is alimony, maintenance or support.  Yet, the bankruptcy court in Miller noted that Gianakas had addressed the discharge of a debt under 11 U.S.C. § 253(a), not a property exemption claim  under 522(d)(10)(D).  Further, Gianakas dealt with the dischargeability of an obligation under a consentual agreement rather than a court-imposed divorce decree.

Before applying the three factors set forth in Gianakas, the Miller court discussed two alternative approaches to defining support obligations in the context of a discharge determination from other federal courts.  The court reviewed the Fifth Circuit’s decision in In re Evert, 342 F.3d 358 (5th Cir. 2003), which set forth four criteria for determining whether divorce-related debts were exempt under § 552(d)(19)(D).  The Evert court held that if:

in the agreed divorce decree there is 1) also a meaningful separate alimony provision, 2) the obligation in question is described as being part of the property division, 3) the label given to the obligation in question is matched by its actual characteristics, and 4) the evidence does not suggest the parties conspired to disguise the true nature of the obligation in order to subvert the bankruptcy or tax laws, then the label given by the state court is sufficient and there is no need to look behind it to determine whether it is really alimony or a property settlement.

Evert, 342 F.3d at 368.  The Evert court concluded that the Gianakas factors should be applied only when the settlement agreement is ambiguous.  The Miller court, however, disagreed with Evert holding that a bankruptcy court must accept the state court’s characterization of an obligation unless the marital settlement agreement is ambiguous.  For these reasons, the Miller court rejected the Evert approach.

The Miller court next considered the approach taken by the District Court for the Eastern District of Michigan in In re Harbaugh, 257 B.R. 485 (E.D. Mich. 2001).  The Michigan court relied upon the legislative history of § 552(d)(10)(D) in holding that the parties’ intent behind the marital settlement agreement or the intent of the court issuing the order should be paramount in characterizing a divorce obligation.  The Harbaugh court found “Congress intended for section 552(d)(10)(D) to exempt only those monies, and potentially other equivalent awards, that concern general spousal sustenance” and therefore, the court should exempt only those payments from “the bankruptcy estate that (1) are intended by the parties or the state court to support a spouse and (2) are, in the judgment of the bankruptcy court, reasonably necessary for such purpose.” Harbaugh, 257 B.R. at 491.

The Miller court eventually endorsed the three-part Gianakas test to determine whether a divorce obligation is an exempt property under 11 U.S.C. § 522(d)(10)(D). In doing so, the Miller court pronounced its intent to avoid inconsistency with the standards by which dischargeability is judged under § 253(a). Applying the first part of the Gianakas test, the bankruptcy court first considered “the language and substance of the agreement in the context of surrounding circumstances, using extrinsic evidence if necessary.” Miller, at 177, citing Gianakas, at 762-63. Wife’s former divorce lawyer argued that the lump sum cash obligation was not support because it was set forth in a section of the master’s report entitled “Discussion and Conclusions of Law with respect to Equitable Distribution.”  Wife conceded that the sum was awarded in this section of the report, but asserted that he substance of the master’s report indicated the award was for the purpose of support.

Applying the second and third factors in Gianakas, the Miller court considered the “parties’ entire financial situation” and “the function served by the obligation at the time of the divorce or settlement.”  Miller, at 177, citing Gianakas, at 762-63.  The court held that it was “crystal clear” that the lump sum distribution to Wife was not only “related to” her support but “founded upon that need.” The court also noted that Wife’s lawyer, by stipulating to the master’s report, had thereby stipulated that the award was necessary to support Wife.  Considering the parties’ financial situation, the court noted the disparity between the parties’ incomes and earning capacities, as Husband earned far more than Wife at the time of the master’s report and at the time of the court’s opinion.  The court also noted the fact that the award was intended to pay for the necessities of life while Wife obtained additional education and employment.  Based on these factors, the court concluded the divorce obligation “was intended by the state court to serve as support and was not a division of property.” Miller, at 178.  Based on this finding, the court allowed Wife to exempt the $88,500 award from the bankruptcy estate and overruled the objections of Wife’s former counsel and the Trustee.

Blazer: Double Dip Still Moribund in California

by bvertz on Sep 8, 2010 • Comments Closed • , , , , ,

Last year I had the privilege of attending the BVR/Morningstar Summit on Best Practices in Business Valuation in Divorce, which will be held this month in Chicago. Unfortunately I have to miss it this year as I will be visiting my new niece in San Diego. They will be discussing the latest developments in business valuation and complex financial issues in divorce, including the following summary of a double-dipping decision from California, which I am posting verbatim from the BVWire blast email:

In re Marriage of Blazer, (August 25, 2009) (partially unpublished)
The California Court of Appeal considered two issues of first impression: whether an owner’s capital account in a small, closely held company should count toward his income for determining spousal support; and whether the ultimate support award, when combined with the disposition and division of the business as a going concern, constitutes an impermissible “double dip” into the income stream of the business and of the owner-spouse.

Profitable produce company. The husband owned a brokerage fruit company in California, focusing primarily on the strawberry market. The trial court valued the closely held business at $5.6 million. Although each party presented expert testimony, the record did not reveal their respective methodologies or the trial court’s determination, except to note that it used the “capitalization of excess earnings method.” It ultimately awarded the entire business to the husband and all remaining asserts to the wife, plus a $1.34 million equalization payment.

In determining the wife’s request for permanent support, the trial court also considered whether the husband’s contribution of roughly $1.4 million from his capital account to expand and integrate the company was a reasonable business expense. Due to changes in the produce industry, the “buyer-broker” entity was being phased out, the husband testified, and unless the company moved into the farming and distribution markets, it would “not exist, it will be gone.” The husband’s expert, a CPA, noted that the company was “very thinly capitalized,” and that the funds were the husband’s to invest and should not be credited as income for purposes of spousal support. The wife’s expert agreed that the business could be better capitalized, but declined to express any “legal” opinion regarding the nature of the husband’s contributions, conceding only that capital withdrawals were generally not taxable as income.

Based on this evidence, the trial court excluded the funds used to expand the business from its award of spousal support. “The need to maintain higher capitalization in the company and the need to diversify the company’s work are reasonable expenses that should not be charged against [the husband’s] income,” it said, “but rather should be taken out of the company before assessing what his reasonable income is for purposes of support.”

As a final matter, it awarded the wife $20,000 per month in permanent support—and both parties appealed. The wife claimed the trial court should have accounted for all of the husband’s income, including the funds in his capital account, before awarding maintenance, while the husband claimed the award unfairly permitted the wife to “double dip” into his business’s income stream. In other words, because the court awarded the wife half of the business’s goodwill value in the property division, which was measured by the excess earnings method, it should not have considered those same earnings in assessing his ability to pay her support.

Both arguments lack direct legal authority. The appellate court tackled the wife’s arguments first, finding nothing in California precedent directly on point. The wife offered two cases, one that permitted a trial court to consider future income from a husband’s bonuses in its award of spousal and child support; and a second case that permitted consideration of income from the future exercise of stock options. But as the husband pointed out, in those cases, the supporting spouse was an employee, not a business owner. Accordingly, the appellate court found them apposite to the current case. However, the record provided substantial support for the trial court’s factual findings regarding the nature of the business and its expenses, including testimony from the husband and his expert. Moreover, the applicable California statute requires courts to consider the “earned and unearned income and the assets of the supporting party,” the appellate court pointed out, with emphasis. Thus, the trial court acted well within its discretion by attributing the reinvested funds to the business instead of the husband, and the appellate court confirmed its alimony award.

In considering the issue of the double-dip, the court found no direct support in California case law. The husband offered cases from other jurisdictions, including New York, which prohibits courts from double-counting the income from professional licenses.  “Once a court converts a specific income stream into an asset, that income may no longer be calculated into the maintenance formula and payout,” the court noted, citing Grunfeld v. Grunfeld 709 N.Y.S.2d 486 (Ct. App. 2000) (available at BVLaw™). At the same time, “there is no double counting to the extent that maintenance is based [on] spousal income which is not capitalized and then converted into and distributed as marital property,” the Grunfeld court held.

California courts have addressed the argument against double-dipping when dividing pension funds and determining support—but they have rejected its “superficial appeal,” this court observed. In one case, the award of spousal support extended only three years after the divorce, but in all cases, when “one spouse receives permanent . . . support from the other spouse, the source is from the separate property of the paying spouse, including . . . earnings or property which were once the community property of both spouses,” the court said (quoting a 1979 California Supreme Court opinion). Thus, it rejected the legal basis for the husband’s argument against double-dipping in divorce.

The appellate court also found no factual basis for it in the record. Unfortunately, the trial court’s orders did not explicitly identify the intangibles it valued when applying the capitalized excess earnings method to the business. Nor did it appear to have valued the business using a stream of future income belonging to the husband, the appellate court noted.  Despite testimony from the husband’s expert that “the excess earnings method of valuing goodwill in a professional corporation . . . is not far removed from a prediction about future earnings,” the court rejected the notion that this valuation method “compels a determination that [the business’s] goodwill value is tied to the husband’s future efforts.”

First, testimony by the husband’s expert—even though it was uncontradicted, was not conclusive proof of such a finding. Second, and more importantly, “an entity’s future earnings do not always correspond with the owner’s contribution of labor,” the court found. The case law has long recognized that “goodwill may exist separate and apart from the services of the person who created it.” Although goodwill and earnings may arise from the personal talents, skills, and reputation of an individual employee, their value may attach to and continue with the business even after that employee departs.

Despite lapses in the record, it sufficiently showed that the trial court valued the husband’s business without including any of his potential or continuing income, the appellate court concluded. Further, nothing in the applicable statute precluded the trial court from recognizing the husband’s future earnings as income available for spousal support, even though such income was undoubtedly his separate property; the trial court also considered the wife’s future investment earnings from her award of marital assets to determine her reasonable needs.  “To sum up, Calfornia authority offerns no basis for treating husband’s earnings from his ongoing business differently fvrom income generated by other assets divided at dissolution, for purposes of determining spousal support,” the court held, and declined to adopt any prohibition against the double-dip in divorce.

This summary suggests that California jurisprudence remains relatively unsophisticated on this important issue, which I might explain in the following way: a business valuation is a hypothetical sale of the business. If the business were sold in conjunction with the divorce, the business owner would receive a price equal to the fair market value yielded by the business valuation. That price is the marital asset that is divided in equitable distribution. The former owner of the business might then have to get a job, where he or she might earn a salary equal to the “reasonable compensation” element of the business valuation. Any future support obligation might be based on the reasonable compensation figure, but must not be based on excess salary and/or business profits that the owner might have received prior to the hypothetical sale, because the owner is no longer receiving such benefits after the “sale.”  The divorce court must not consider the business owner’s actual compensation and profits when calculating post-divorce support obligations. On the other hand, any support obligations imposed prior to the divorce (i.e., prior to the hypothetical sale) may be based on the owner’s entire compensation and profits because the double dip does not occur until the business is “sold.” The court in Blazer seemed to miss this concept in its analysis.

One of my colleagues believes that there is a flaw in the double dipping argument when applied to business valuation because the business may continue to generate profits in the distant future.  Mathematically, a business valuation is a net present value calculation, derived from the sum of the profits generated by the business year after year into infinity. Valuation is not based upon profits for a limited period of time; it is unlimited. By viewing the valuation as a hypothetical sale, this concept is easier to understand. A business owner will not receive profits at any future time period after selling the business.

Blazer demonstrates the importance of building a record at the trial court level and explaining valuation concepts in concrete terms. It is easy for a court to misconstrue esoteric terms like “goodwill,” but it seems unlikely that an expert could deny that fair market value implies a hypothetical sale, or that valuation is the net present value of an infinite series of annual profits.

Alimony Tax Gross-Up Approved

by bvertz on Aug 9, 2010 • Comments Closed • , , ,

In Balicki v. Balicki, 2010 PA Super. 134 (July 30, 2010), the Superior Court considered the husband’s argument that the alimony order provided more income to his ex-wife than she could spend (as shown by her budgetary expenses). The trial court in its opinion justified the alimony award by noting that the wife would pay income tax on her alimony award, thereby reducing the after-tax dollars available to her. The trial court presented a seemingly reverse-engineered analysis of available income sources to prove that the income nearly matched wife’s claimed budgetary needs, thereby vindicating the result.

An important element of the trial court’s opinion was its calculation of the ex-wife’s income tax liability arising from her alimony award. The trial court held, and the Superior Court agreed, that a tax “gross-up” may be warranted under 23 Pa.C.S. § 3701(b)(15), one of the 17 statutory criteria for judging alimony claims. The trial court’s tax gross-up was triple the provision recommended by the master, but the trial court also disapproved the master’s inflated budget. These two adjustments offset each other, and the trial court affirmed the result reached by the master on different grounds.

The husband argued that the trial court had no right to reconsider the tax gross-up since neither party raised the issue in their exceptions from the master’s report. The Superior Court agreed that the trial court was not limited to the issues specifically raised on exceptions. Ironically, the Superior Court dismissed all of the husband’s allegations of error pertaining to specific items on wife’s budget, holding that they were waived because they were not specifically identified in the § 1925 statement.

All of the ex-wife’s issues on appeal, most of which seemed to be calculated to counter-balance husband’s appeals, were dismissed by the Superior Court, which affirmed the rationale of the trial court.

Top Five Things to Do if You Are Separating

by bvertz on Aug 6, 2010 • Comments Closed • , , , ,

[This is a re-post of a popular article that I wrote and published a year ago on this site.  ~BCV]

It’s never easy to take the first step on any journey. When you are facing a marital separation, there are five things that you can do to protect yourself, financially and emotionally.

1.         Secure your property. Review your joint bank and credit card statements regularly to ensure that no unexpected withdrawals or charges have been made. You might want to divide joint accounts or close credit cards if there is no legal restriction, but check with your divorce lawyer first. It’s also a good idea to secure property that may have sentimental value, like family heirlooms, where they cannot be misplaced or damaged.

2.         Conserve resources. Creating a budget and sticking to it are always prudent measures, especially during a marital separation. When one household becomes two households, the expenses are increased but income is not. When making financial decisions, consider the effect on cash flow and liquidity. It might be better to pay joint debts out of joint income and assets instead of your separate income and assets, but check with your divorce lawyer first.

3.         Gather financial records. If you keep your records organized, you will have an advantage in the divorce process and save legal fees. Make photocopies and keep them in a secure place so that you can furnish them to your divorce lawyer when asked. If you have access to your spouse’s records legally, make copies of them as well. You can obtain most documents through a legal process known as discovery, but it is cheaper to make copies yourself.

4.         Think twice before acting. Imagine at all times that your kids and a family judge are watching every action and reading what you write. Anything you say or write in emails and text messages might be used as evidence. How would a family judge react to your Facebook profile? If you have a temper, consider moving out before you do something that might result in a restraining order. Don’t make any agreement without consulting a lawyer first.

5.         Contact reliable allies. Trust is one of the first casualties of divorce, so you need to find reliable allies. Consider supportive friends and family members who are able to keep your confidences and empathize with your feelings. Physical activities like exercise can reduce stress more effectively than alcohol or junk food. Hire a family lawyer that you feel comfortable with. It is very important to understand what your lawyer is saying and to be heard when you speak to your lawyer. Consider lawyers who concentrate their practice in divorce and know the nuances of this complex area of legal practice.