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.

The Supreme Judicial Court of Massachusetts ruled recently that agreements between spouses who plan to continue their marriage but wish to define their legal rights and obligations in the event of divorce are enforceable in that state. Some states (notably Ohio) do not permit spouses to execute agreements waiving their marital rights unless they are actually pursuing divorce, and the law of many states is unsettled. In its recent decision, the highest court of Massachusetts joined the ranks of states (including Pennsylvania) where such “post-nuptial” agreements are permissible.

Post-nuptial agreements may combine certain elements of prenuptial agreements with features of marital settlement agreements. Post-nuptial agreements may divide marital property between spouses, protect their separate property, and establish or restrict spousal support and alimony, like settlement agreements. Post-nuptial agreements can also protect family businesses, inheritance, and other separate property to be acquired in the future, just as prenuptial agreements do.

In Ansin v. Ansin-Cravin, 457 Mass. 283, 929 N.E.2d 955 (2010), the husband and wife entered into a post-nuptial agreement two years before their eventual divorce. The post-nuptial agreement in that case gave the parties a chance to attempt marital reconciliation while removing the financial risk of taking “one last chance”. The couple had been married for nineteen years at the time of their agreement. At that point, the husband separated from his wife and advised her that he would not return unless she would sign an agreement. She hired legal counsel, investigated the nature and value of their assets, and negotiated the terms of the agreement.

Having signed the agreement, the husband and wife reconciled for nearly two years. Ultimately the reconciliation did not last, but the parties were able to avoid the stress and expense of protracted divorce litigation by having an agreement in place (at least, they would have avoid those pitfalls if the wife had not challenged the validity of the agreement). The Massachusetts court applied the same standards to post-nuptial agreements as many states employ when judging the validity of prenuptial agreements and settlement agreements: (1) availability of independent legal counsel; (2) full and fair disclosure of financial resources; (3) absence of fraud or duress; and (4) reasonableness of the provisions for each spouse.

Pennsylvania has long recognized post-nuptial agreements, and for good reason. When entering into a post-nuptial agreement, full and fair disclosure is an essential element; and it may be important to engage legal counsel. While formbooks and software programs may contain “boilerplate” prenuptial agreements, post-nuptial agreements are very different and require the skill of an experienced family law attorney.

News stories were posted today on CNN.com and VanityFair.com claiming that a growing number of people are using Facebook to cheat on their spouses…. and getting caught! Divorce lawyers have discovered that many careless cheaters leave obvious evidence of their infidelity on social networking sites, where anyone can find it. In fact, a site called FacebookCheating.com has recently popped up to hype this phenomena. According to CNN, “a recent survey by the American Academy of Matrimonial Lawyers found that 81 percent of divorce attorneys have seen an increase in the number of cases using social networking evidence during the past five years. More than 66 percent of those attorneys said the No. 1 site most often used as evidence is Facebook with its 400 million registered users.”

So if this internet evidence of cheating is out there, how can it be useful in a court where most divorces proceed under the no-fault laws? In my experience, Facebook and other social networking sites can be gold mines of useful evidence that can help parents to win custody cases. Too many people post pictures and stories of their drunken or bawdy behavior on their profiles. Facebook evidence can prompt a judge to question a parent’s ability to observe appropriate values and boundaries with their children. Evidence of cheating is not necessarily relevant to the economic aspects of most no-fault divorces, but it can be a defense to spousal support or alimony under some circumstances. If you discover a spouse’s Facebook profile with damaging evidence of cheating, contact your family lawyer immediately to find out what to do next.

Divorcing spouses often ask me about credit card debts and loans. While a divorce court may assign responsibility for paying credit card debts and loans that were incurred during the marriage, the court generally lacks jurisdiction over the creditors. In other words, the divorce court cannot force the credit card issuer to collect from one particular spouse if both spouses were cardholders.

If both spouses’ names are on the credit card accounts or loans, then creditors may choose to collect from one spouse or the other or both, at their discretion. Surely, the divorce court can hold a spouse in contempt if he or she failed to meet his or her court-ordered responsibility to pay the debts, but that is cold comfort when the other spouse’s credit rating has been ruined and debt collectors are calling on the phone.

My thoughts? (1) Use marital funds to pay off marital debts. The divorce courts may give full credit, partial credit or no credit at all if one spouse uses his or her post-separation earnings to pay marital debt, but the courts will grant full credit if marital assets are used to pay marital debt. (Just be cautious about impairing cash flow for current expenses.) (2) The spouse who has greater income may have a greater ability to pay debts. (3) If the debts are excessive and income is minimal, consider bankruptcy.

This article contains some good information about credit cards and divorce.

A New York Times columnist, The Ethicist, recently published a question from a divorcing spouse, pondering whether it was ethical to keep quiet about errors that a judge or opposing counsel had made in her favor, apparently unnoticed by her ex-husband’s lawyer:

My ex-husband and I could not revise our child-support arrangement ourselves, so we took it to court. At the hearing, my lawyer, a specialist in family law, was better prepared than his, a generalist who made numerous mistakes in preparation and presentation. The hearing officer’s recommendation included several large calculation errors, most in my favor. Each side has 20 days in which to report such errors. Am I ethically obligated to do so? NAME WITHHELD, PENNSYLVANIA

The newspaper columnist, who consulted with a legal ethics expert, indicated that the spouse had no legal duty to report the error but might want to notify her ex anyway. Taking advantage of the situation might destroy any mutual respect or trust left between the ex’s, which would make all future dealings more difficult and expensive.

It’s not easy to take the high road when dealing with an ex, particularly after a hard-fought divorce. Still, it is important to consider the “costs” of a bellicose relationship with an ex. Sometimes it is unavoidable, but often a small concession can melt the ice just enough to save legal fees and mental anguish.

While doing research on corporate control issues recently, I came across the following article, published by The Wilmington Trust, a venerable private wealth management firm:

Imagine attending the next board meeting of your venerable family firm, only to be seated across from your former spouse’s new partner, who is 15 years your junior. With the divorce rate high, the liklihood of these situations occurring is increasing. But when it comes to protecting your family business from such potentially disagreeable divorce fallout, it’s important to take some precautionary steps:

• Develop a corporate culture that separates ownership from authority and control.
• Employ legal tactics and structures to prevent a divorce from deadlocking the business.
• Establish mechanisms (including participation in family business associations) to keep the channels of communication open and prevent small conflicts from becoming big.

Corporate Culture
Too many families confuse a stake in the business with authority and control. Here is one textbook example from Paul Karofsky, director of the Northeastern University Center for Family Business: “A century-old company, in which ownership was diluted among 18 grandchildren, gave everyone an identical salary, private office and luxury car regardless of their job with the now-defunct company. It would have been much more appropriate to provide salaries and benefits commensurate with their job descriptions and to distribute dividends based on their ownership and profits.”

The model for separating ownership from control in a mature family company, such as the one with 18 owners, is akin to a public company. At Staples®, where just about everyone owns stock — from truck drivers to senior management — no one has grounds to complain when a truck driver, who bought Staples stock 20 years ago, owns a bigger stake in the company and has a higher net worth than his newly hired, better-paid branch manager.

Legal Tactics
When children marry and their spouses enter the family with a presumption of status in the company, the stresses can severely impede business success. Add divorce, and the business could be doomed. As the founder, or senior family member, you have a responsibility to protect the company from being deadlocked by an irate ex-spouse following a child’s divorce. When the children are young and unmarried, it is relatively easy to insist on prenuptial agreements to prohibit spouses from owning stock. To encourage acceptance among the adult children and their betrothed, make it clear that the lack of stock ownership bears no relationship to a financial settlement in the event of divorce.

Obviously, prenuptial agreements cannot be required if marriages have already taken place or in situations where spouses feel justified in owning part of the business. For example, two sisters started a small, mail-order company to sell gardening tools. One sister’s husband offered to set up and run the website, which became hugely profitable. Meanwhile, the other sister’s husband helped out with the books and eventually joined the burgeoning company as CFO. The small business grew into a sophisticated corporation, with no one addressing any of the tough issues such as divorce, death, succession, and so forth.

In an emerging business, such as the gardening tool company, the owners and their spouses must recognize that their obligation to the business far outweighs their individual need for control. Since the spouses are already active in the company, one solution is to create a trust which will own and control all of the stock. In addition to family members, the trust should have one or more outside trustees, preferably a corporate trustee, to break any deadlock. Without a trust in place, shareholders can seek, and will likely receive, a remedy from the courts if a deadlock threatens the business. Unfortunately, having the courts make business decisions is costly and cumbersome, and everyone can wind up with bruised feelings. Trust documents should be re-examined and revised periodically to make sure they continue to serve business and family interests.

Family Business Associations
Family Business Associations can assist in facilitating communication, resolving conflict, and providing management, legal, and other insights. In addition, these organizations offer family business owners, including spouses and children, an opportunity to share their problems and solutions in a non-threatening, peer-to-peer forum.

In a Nutshell

• The divorce rate is high, but the probability of divorce increases when the number of family members involved in the business grows.
• Disputes over power, money, and control at home will be played out in the business.
• Be alert to status issues, both within the company and community.
• Clearly distinguish between ownership and jobs, but do not go overboard by being unduly tough on an heir apparent.
• Communicate and revise the trust and other agreements to cope with advancing age, marital status, involvement, health, and the like.
• Establish an exit strategy, such as a Texas Shootout, which allows one partner to set the price for his or her half of the business and the other partner to either buy or sell at that price.
• Employing spouses offers substantial benefits, including participation in business travel, the company pension plan, health plan, and Social Security. But roles and compensation for spouses must be well defined, recognizing that other family members and employees will notice every scintilla of preferential treatment.
• Assess your strengths as the business grows; if running the business day-to-day is not your forte, consider hiring an outside CEO or general manager.

Developing an ongoing relationship with your financial institution and a family business forum is well worth the effort. No corporate job can compare to a well-run family business when it comes to flexibility, financial reward, and an opportunity to work with people whom you know, love, and trust.

Source: The Wilmington Trust

The Colorado Supreme Court, in Marriage of Thornhill (June 1, 2010), held that it would not mandate the “fair value” standard for valuation of business in divorce proceedings. The husband in Thornhill operated an oil and gas service company that was valued at $1.625 million after applying a 33% marketability discount as part of an FMV valuation for divorce purposes. The wife argued on appeal that the marketability discount should not be applied, citing a Colorado precedent in which marketability discounts were prohibited in minority shareholder oppression cases. The Supreme Court affirmed the trial court’s refusal to prohibit marketability discounts in divorce cases. The Supreme Court noted that the “fair value” standard was required under the state’s shareholder oppression statute but not under the state’s divorce statute.

This decision contains a good explanation of the reasons why “fair value” is not necessarily appropriate to divorce cases. The wife argued that divorce cases are similar to shareholder oppression cases because a divorce involves an involuntary divestiture of a party’s interest in the business. The Colorado Supreme Court explained that valuation discounts are prohibited in shareholder oppression cases to discourage majority shareholders from engaging in oppressive behavior. In other words, the prohibition of marketability discounts in shareholder oppression cases forces the majority shareholders to pay more than fair market value as a penalty for their conduct. Imposing the fair value standard in divorce cases would not serve the same purpose.

The Colorado Supreme Court did not go as far as prohibiting the fair value standard in divorce cases. Instead, the court held that marketability discounts must be considered on a case-by-case basis. It is conceivable, under certain circumstances, that marketability discounts might not be applied in divorce cases. It would not be appropriate, however, to impose the fair value standard in every divorce.

Texas has once again proven itself to be a haven for the affluent divorcee. In Mandell v. Mandell, 2010 WL 1006406 (March 18, 2010), the Texas Court of Appeals held that a professional spouse’s 25% interest in a medical corporation was limited under the terms of a buy-sell agreement to a nominal fixed price payable to shareholders upon divorce. The decision was summarized at BVLaw Blog as follows:

In a case of first impression, the Texas Court of Appeals considered a buy-sell agreement that purported to bind shareholders and their spouses in the event of divorce. As a further complication, the husband had signed an employment agreement with the private medical association—but neither he nor his wife had signed the shareholders’ agreement.  This unsigned agreement limited the value of a divorcing shareholder’s interest to the equity buy-in price (in this instance, a mere $11,000 for a 25% share in a business with an estimated $3 million to $5 million book value).

I share BVLaw Blog’s incredulity, but my analysis is somewhat different.

In the opinion, the Texas appeals court emphasized that the doctor, who signed the stock purchase agreement during the marriage three years before separation, tendered a check for his buy-in but never signed the shareholders agreement (which was referenced in the stock purchase agreement); and his shares were never issued. After separation, the corporation returned the shareholder’s fixed buy-in payment. At that point, the trial court  might have held that the shares were never acquired, and only the buy-in payment itself was community property.

Yet, during the pendency of the divorce litigation, the wife filed motions compelling her husband and the corporation to complete the transaction. The doctor returned the fixed sum to the corporation, and the corporation issued the shares. When the wife attempted to introduce expert testimony to prove the fair market value of the shares, she was met with a motion in limine, which was granted. The trial court held that the wife was bound by the terms of the agreements.

In Texas, the fair market value of a business is presumed to be zero if the shareholders are contractually obligated to sell back their shares upon retirement, death or divorce. A divorcing spouse may present evidence of book value or comparable sales to rebut the presumption, but in this case, the court held that the net asset value was the property of the corporation, not the shareholders.

It might be signficant that Texas is a community property jurisdiction. Since the marital community exists throughout the marriage in those jurisdictions, it could be said that the doctor’s wife was in privity with her contracting husband when he signed the stock purchase agreement. Furthermore, property in Texas apparently cannot be owned simultaneously by one legal entity (a corporation) and another legal entity (the marital community). These principles might not apply in common law (marital property) states, such as Pennsylvania, where it might be argued that the spouses were neither in privity nor intended third party beneficiaries of such contracts, and where marital property is merely a fictitious estate rather than a legal entity.

Two articles from BV Wire recently caught my attention. Both deal with business valuation in divorce cases where personal goodwill was an issue. I will post my own analysis soon. Meanwhile, here are excerpts from BV Wire’s blast email, published by BV Resources.

Med practice valuations still plague appraisers—and the courts

A trio of new divorce cases highlights the constant challenge of appraising medical practices, everything from doctors who won’t disclose their finances to those who insist their opinions should determine value. In Garcia v. Garcia (Fla. App., Jan. 20, 2010), the husband’s expert argued for a strict application of the buy-sell agreement, which would have limited his share in a successful hematology practice to a mere $45,000—compared to the wife’s expert, who used a net asset value to appraise it at $900,000. At the very least, the husband argued, the restrictive buy-sell should considerably discount the NAV (but he lost both arguments on appeal).

Or consider Amaraneni v. Amaraneni, (La. App., Feb. 12, 2010), in which the doctor claimed his interest in an urgent care clinic had no value apart from goodwill attributable to his professional qualities. But he failed to provide any financial documentation to the court-appointed expert; at deposition, he was similarly “vague” and un-responsive. His name was on the wall but the clinic wasn’t named after him. A manager supervised all the operations and staff—and the expert apportioned all goodwill to the enterprise, also confirmed on appeal.

Finally, in Dickert v.Dickert, (S.C., Jan. 11, 2010), the trial court valued the husband’s successful dental practice at $360,000, including over $255,000 of “enterprise goodwill.” In an expedited appeal to the S.C. Supreme Court, the husband argued that state law precluded any consideration of goodwill in a professional practice, due to its speculative nature. The wife claimed the current majority rule on enterprise values was the better law, but the court disagreed, finding the goodwill asset “too intangible” to support an accurate valuation.  (All three case digests will appear in the April 2010 Business Valuation Update™.)

Is this recession enough reason to devalue assets in divorce?

In Mistretta v.Mistretta (Fla. App., Feb. 18, 2010), the trial court valued the husband’s restaurant at $854,000, based on a valuation report prepared nearly a year earlier. The husband moved for reconsideration, claiming the recession caused the restaurant to lose value. The trial court agreed, finding that no one could have foreseen the severity of the economic crisis—but the wife successfully appealed. “Economic recessions, like other vagaries in the business cycle, are contingencies appraisers must take into account in valuing a business,” the appellate court held, despite a strong dissent which likened the recession to a global economic “tsunami.” The wife’s expert, Gary Trugman, obviously agrees with the majority. “The truth is, we did consider the economic downturn, because we used dual valuation dates,” he tells the BVWire™. The husband also lost on his expert’s claim that 50% of the restaurant’s value was personal goodwill. “As I said to the judge, ‘Your Honor, when was the last time you went to a restaurant if the food was lousy, the service was terrible, but the owner was a really nice guy?’ I think that got my point across, that there was very little personal goodwill,” Trugman says. “I used Pratt’s Stats data for restaurants to demonstrate what portion of the purchase price was protected by a covenant not to compete, and used that percentage to allocate some personal goodwill—but it was a relatively small figure.”