I am a family law attorney, also known as a divorce lawyer, in the Rochester Hills area of Oakland County Michigan.  In order to remain current regarding the law in my area of practice, I read every case decided by the Michigan Court of Appeals and the Michigan Supreme Court with regards to my area of practice. 

The Court of Appeals issued a published opinion, which means that the divorce trial courts must follow this ruling, on September 4, 2012 that has serious implications for small business owners in the divorce context.  This opinion deals with the issue of double dipping when it comes to a business owner or professional practitioner and spousal support or alimony.  I have always recommended that small business owners, professionals (doctors, lawyers, accountants etc.) and people involved with family businesses should have a prenuptial agreement and this opinion makes it is essential to have one.

The Issue    

May a court use a small business owner’s higher income, relative to the fair market value of his or her actual job description, to calculate child support and alimony and then add that excess income back into the business to calculate the value of the business for the purpose of property division? 

The Answer

Yes, the court ruled that in some circumstances it may be equitable for a court to double dip with regards to the income of a small business owner and the value of the business.  Double dipping is a situation where in technical terms a business or a professional practice is valued by capitalizing its income, some or all of which is also treated as income for spousal support purposes.  The divorce courts typically grant the spouse of the business owner or professional practitioner 50% of the value of the business or practice.  This issue really deals with how to value the business and determine the income of the owner spouse for purposes of support.

In the case at hand, the husband was a small business owner of a company, QPhotonics that he formed in 2000 at which he began working full time in 2004.  The husband actually earned $240,000 in salary from QPhotonics.  To determine the value of the company, the family law attorney will retain an expert to determine what the actual fair market value of the business owner’s salary would be if the business owner worked for another company and performed the same managerial tasks.  In this case, the expert testified that the fair market value of the husband’s compensation was $130,000.  The court used this income to calculate alimony and child support.

The expert will then take the “excess” salary (in this case $240,000-$130,000 or $110,000) and add that back into the value of the business to determine the value of the business for purposes of property division.  This increases the value of the business for purposes of property division but decreases the income for purposes of computing alimony or spousal support and child support.  This is done to avoid adding the salary back into the business for purposes of calculating the value of the business but still using the higher salary to determine support.  In this case, the expert testified that the value of the business, after adding back in the “excess” salary of $110,000, was $280,000.  The court awarded the wife $140,000 for her share of the value of the business.

The trial court in this case, avoided the double dip and stated that for purposes of fairness and being equitable, a divorce court should determine whether or not the valuation of the business is for the purpose of distribution of property or spousal support but not both.  This seems correct. 

Surprisingly the Michigan Court of Appeals reversed this decision.  It indicated that the trial court’s decision to award spousal support is discretionary and should reflect what is just and reasonable under the circumstances of the case.  Unlike child support, spousal support does not follow a strict formula and the Appellate Court declined to adopt a bright line rule with respect to “excess” income and held that courts must employ a case-by-case approach when determining whether double dipping will achieve an outcome that is just and reasonable within the meaning of the alimony statute.  It remanded the case back to the divorce trial court to determine whether the equities in the case warrant utilizing the value of Qphtonics for purposes of both property division and spousal support.

Summation

This approach seems patently inequitable because it falsely inflates the value of the business or professional practice by adding back in income and profit that is not actually in the business but then uses the same dollars to calculate a higher amount of support.  It is for this reason, that business owners and professionals with their own practice must have a prenuptial agreement to protect themselves in the event of separation, divorce or death.