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Placing a Price Tag on Marital Assets
After determining that a couple wishes to obtain a divorce, one of the major issues that will be encountered is how to divide the property acquired during the marital relationship. This process is defined by the courts as "equitable distribution." Equitable distribution is a statutory provision that contains procedures for dividing marital assets between the spouses. However, in order to apply these procedures it is very useful if the parties employ some preliminary investigatory techniques which can be easily remembered by using the acronym ICE-T.
Initially, it is important to IDENTIFY the assets and debts derived from the marriage, regardless of whose name the property is in. Secondly, you should CLASSIFY the property as either marital or separate property. Thirdly, you need to EVALUATE each asset and debt. Finally, you should consider the TAX implications of acquiring each asset and debt in a settlement. After performing this analysis, it is critical to step back and perform a cost-benefit analysis to determine if, economically, it is better to settle this case with your spouse or if you should bring the case to trial. When the marital assets are small and the marriage is of a short duration, negotiation and settlement may be more beneficial, for the cost of a trial may eliminate the small pool of assets that the couple has. Conversely, where there are many assets, tangible property as well as businessís and professional degrees that were acquired during the marriage, it is more likely that a trial will be necessary to determine how the property will be distributed among the parties.
The Distinction Between Marital and Separate Property
Upon divorce, property that is subject to equitable distribution is property which the court deems "marital property." Marital property is any property that is acquired or accumulated by either spouse during the marital relationship and before the commencement of a matrimonial action or the execution of a separation agreement. Property acquired after commencement of the action may also be considered marital property if the source of the funds, labor, and/or other assets used to acquire the property can be traced to marital assets. To determine if a specified item is deemed marital property and thus entitled to equitable distribution, the manner in which the property is held is not dispositive. This means that if title to property is held in one spouseís name, but was acquired by the parties during the marriage, this property is characterized as marital property and subject to equitable distribution. Although the manner in which the property is held is not particularly relevant, it is important to note that marital property does not include what is entitled "separate property," unless the appreciation in the value of separate property is a result of the spousesí contributions or if the separate property has been "co-mingled" with marital property.
Marital property is defined as "things of value arising out of the marital relationship." This means that marital property is anything that has an economic value that results from the efforts of either one or both spouses during the marital relationship. Those items which the court has labeled marital property in New York State include licenses to practice a profession, degrees, certifications, career paths, reputable interests in a business, corporation, or partnership, real property, investment accounts, bank accounts, wedding gifts, personal property such as artwork and home furnishings, pension plans, retirement funds, stock options, whole life insurance policies, and gifts among spouses.
Conversely, separate property, which is not subject to equitable distribution, is property that is acquired before the marriage. Under Domestic Relations Law Section 236 (B)(1)(d) separate property is also defined as inheritances, income from separate property, gifts to only one spouse, and compensation for personal injuries. Separate property does not include property acquired after the commencement of a matrimonial action or the execution of a separation agreement unless the source of funds, labor, or other asset used to obtain that asset is considered separate property.
Generally, there are three exceptions to the rule that separate property is not considered martial property and thus not subject to equitable distribution. Separate property becomes martial property when the separate property is sold or transferred; when the separate property appreciates in value; and when separate property is co-mingled with marital property.
In the first situation, complications often arise when a spouse either sells or transfers separate property during the marriage. The determination of whether this property is deemed marital property and thus subject to equitable distribution, or separate property is governed by statute. Under New York law, when separate property is sold and other property is acquired in exchange for the separate property, this new property becomes a marital asset and is subject to equitable distribution. For example, if a spouse owns a home prior to the marriage this would ordinarily be considered separate property. However, if the spouse sold this property during the marital relationship and bought another home with the proceeds of the sale of the first property, this new home is marital property and will be distributed between the spouses.
Secondly, under New York statutory law, any increase in the value of separate property is separate property, except if the increase in value is due to the contributions or efforts of the spouses. Spousal contributions which contribute to an appreciation in separate property, can be in the form of actual monetary and tangible contributions or intangible, non-monetary contributions. For instance, if one spouse bought the marital residence before the marriage, the house could be defined as separate property. However, if the marital residence increased in value during the marriage and the parties contributed to the mortgage payments, taxes, insurance, maintenance, and/or repair of the premises, the appreciation would be considered marital property.
Similarly, if one spouse owned a business before the marriage and the business appreciated in value during the marriage, the appreciation would be considered marital property if the spouses contributed to that appreciation. If the parties worked for the business, or even if one spouse performed the role of homemaker and child rearer so that the other spouse could focus on the business, this would be considered an active contribution, making the appreciation of the business during the marriage marital property.
However, if appreciation is considered passive, then the appreciation is separate property. For instance, if one spouse had a stock fund before the marriage and the only reason the increased in value during the marriage was due to market forces, rather than investment decisions by either spouse, then the entire stock fund remains separate property.
Thirdly, the co-mingling of separate and marital property may transform separate property into marital property subject to equitable distribution. For example, inheritances by either spouse are considered separate property. However, if the proceeds from the inheritance are invested by the other spouse or if the inheritance is placed into an account with that spouseís earnings that are acquired during the marriage (earnings acquired during the marriage are marital property), the co-mingling of the separate property with marital property may transform the separate property into a marital asset.
After determining what assets are marital property and which are separate, the next step is to determine the value of each of these items, so that the pool of marital assets can be divided among the parties. The process known as valuation is a process whereby each asset that was acquired during the marital partnership is given a monetary value. In some cases, this procedure may be easy, as in cases where the couple has not acquired many assets. However, in many cases, this process will be very complicated and proof as to the value of a particular item, such as a business interest or a professional practice, will require expert reports and possibly expert testimony if there is a trial After the value of the marital asset is determined, the court will analyze, or the lawyers will negotiate for, what percentage of that asset the spouse is entitled to. Factors to be considered in making this determination include the length of the marriage, contributions to the marriage, and the loss of employment and educational opportunities by the non-titled spouse. Contributions include but are not limited to the areas of homemaking, childrearing, financial and direct assistance in helping the other spouse obtain an education, degree, license, career, or to build a business.
Determining the Valuation Date For Marital Property
As a general matter, the date at which assets are valued is usually determined under the "active-passive approach." However, this approach is not an immutable rule, but is rather a test which serves as a guidepost.
Active assets are those assets which increase or decrease in value due to the conduct of the spouse which has title to that asset. An example of an active asset would be a business or professional practice where the spouse has direct involvement. Active assets are typically valued at the date of the commencement of the matrimonial action. The idea is that since the marriage is over when the matrimonial action is commenced, such that the other spouse is no longer contributing to the value of the asset and so should not share in any increased value which results from the other spouse's labor. Alternatively, passive assets are those assets that increase or decrease in value due to market conditions or the efforts of third parties. An example of a passive asset is real estate. Passive assets are usually valued at the date of trial, so that the titled spouse does not receive a windfall if the asset increases in value during the divorce proceeding.
Valuing A Business
In cases where a business is considered a marital asset and one spouse is going to retain all of the interest in that business following a divorce, the other spouse is entitled to either a monetary or a property award in exchange for the other spouseís corporate interest. Generally, in a matrimonial action, a forensic accountant should be utilized to determine the value of the business. Since the value of a business either increases or decreases due to the efforts of the titled spouse, this asset is usually deemed active and the date of valuation is typically the commencement of the matrimonial action, since the other spouse is no longer contributing to the value of the business and should not share in the increase in value due to the other spouse's activities. Considerations in determining the value of a business for purposes of equitable distribution include: the nature and history of the business, tangible assets of the business, earning capacity, fair market value, good will, or any other intangible value of the business.
In most cases, the value of a business will be determined by "fair market value." Fair market value is the price at which property would change hands between a willing seller and a willing buyer, both having reasonable knowledge of the relevant facts. Factors that are traditionally considered in arriving at "fair market value" include: the nature of the business, the economic outlook of the business itself and the outlook of the particular industry, the financial condition of the business, earning capacity of the business, and whether the business has goodwill or any other form of intangible value.
In addition to using the "fair market value" method to determine the value of a business, several other methods are available. These include the excess earnings method, capitalization of earnings method, the liquidation method, and the adjusted book value method. The excess earnings method determines the fair market value by adding tangible assets and goodwill. Goodwill consists of the reputation of the business, ownership of a brand or trade name, and the record of successful operation over an extended period of time. The capitalization of earnings method is a good method for valuing product or service related businesses. This method considers the businessís past earnings as an indication of future earnings; these future earnings being converted in present value (what they are worth to the individual today). The liquidation method of valuation is useful primarily when the business has considerable assets which can be liquidated (sold), such as real estate. The adjusted book value is a good method of valuation where the business owns income producing assets, such as securities, which are not imperative to operating the business. The book value of a business is the businessís assets minus liabilities, but adjusted for depreciation and the market value of the inventory of the business.
Valuing A Professional Practice
Various professional practices, such as law, dental, and accounting practices, are marital property subject to equitable distribution if they are established during the marital relationship. Also, the appreciation in the value of a business that was started before the marriage, if this appreciation is a result of the other spouses' contributions to the business, are also considered marital property and are subject to equitable distribution. Once the value of the practice is determined by a forensic accountant, the other spouse will either receive either a lump sum payment representing his/ her interest or the interest will be offset against a different asset. The parties may also agree to installment payments.
Generally, a professional practice has two separate components: tangible and intangible assets. Tangible assets include essentially anything that can be converted into money, such as office furnishings, library, and any office equipment. Intangible assets include good will. Goodwill is an intangible asset that results from a name, reputation, consumer patronage, location, which generate am economic benefit to the owner. It is within this category that the value of a professional practice is found. There are several ways in which this can be valued, including determining the fair market value of the business, the book value, or liquidated value.
The fair market value is the amount at which the business would change hands between a willing buyer and a willing seller when the circumstances are such that neither is under a compulsion to buy or sell and when both have reasonable knowledge of the facts concerning the transaction.
The book value is the value that is found on the company's financial statement. However, this method of valuation may be misleading in that these financial statements often estimate items such as depreciation and ignores appreciation of underlying assets.
A liquidation model of valuation appraises the value of all assets and liabilities to determine a value available to the owned if they were to sell the business. This method does not recognize any good will to the business but only establishes values for tangible assets.
Valuation Of A Professional License\Degree\Career Path And Enhanced Earning Capacity
In the case of O'Brien the New York Court of Appeals determined that a license to practice in a particular profession, such as law, which was acquired during the marital relationship, is marital property that is subject to equitable distribution. This license to practice is viewed by the court as an asset, a valuable property right to be equally distributed between the parties. The value in this asset is derived from the increased earning capacity due to the acquisition of the license.
The value of a party's professional license or degree is generally the difference between the lifetime earning potential of an individual with such a license or degree and the lifetime earning capacity of one without such a license or degree, with an adjustment for factors as inflation and taxes. However, when there is a precise history of actual earnings attributed to the license, this trend of actual earnings is used to predict future earnings of the individual with the professional license. To determine the increased earning capacity of a spouse with a professional degree, the earning capacity at the date of marriage is compared to the earning capacity at the commencement of the divorce proceeding, trial date, or settlement date. The difference between these two numbers is multiplied by the total number of years the individual with the degree is expected to reap the benefit of their professional degree. Since the spouse is only entitled to that portion of the benefit resulting from the marriage, the above figure is divided into a marital and separate portion; the spouse receiving a share of the value attributed to the marital portion.
In a case where a professional license and a professional practice is involved, there are complex valuation issues in that the practice has a value and the enhanced earning potential from the license has a distinct and additional value. Both of these assets, the value of the practice and the increased earning capacity derived from the license, are marital property and subject to equitable distribution if they were acquired during the marital relationship. These assets are distinguishable in that the latter concerns the value of the bare professional license or degree and the former refers to the professional work experience, special training, skills, and contacts developed during an individual's career.
The leading case governing this analysis is McSparren v. McSparren. In this case the court stated that a husband's law license and his law practice were separate and distinct assets, each subject to equitable distribution; that the professional license has "ongoing independent vitality" even after the professional practice has been in operation for several years. Thus, the license itself is valued and the spouses increased earning potential created by the license is considered an additional asset. As the court stated in Rochelle G, "in the case of the holder of a professional license, the professional upon graduation from school, and entry into the profession, obtains two assets: the license and the increased earning potential that entry into the profession provides."
When the court is calculating the increased earning capacity of the spouse with a professional degree or license, the future earnings of that spouse determine the value of this asset. Additionally, when the court awards maintenance, the amount of maintenance is determined by the future earnings of the spouse. Since the same income stream is being used to determine both the maintenance award and the asset of the enhanced earning capacity, the court may reduce either the maintenance or equitable distribution award in light of the fact that the same income stream is being used to determine two distinct judgements to the other spouse.
Additionally, in the many cases, "enhanced earning capacity," even without an academic degree or professional license, will be subject to equitable distribution. The court has stated that the skills or career path of an artisan, actor, professional athlete, investment banker, or any person whose expertise in his/her career has enabled them to become an exceptional wage earner should be valued as marital property subject to equitable distribution. This means that even if a particular career does not require a professional license, the individualís increased earning capacity resulting from the skills, expertise, reputation, or career path acquired during the marriage is marital property and thus subject to equitable distribution.
Valuing Pension And Other Retirement Benefits
Retirement funds acquired from the date of marriage until the date of the commencement of the matrimonial action are marital assets. The only type of retirement plan that is separate property is a disability pension. Retirement funds may include such instruments as IRA's, annuities, 401 (K) plans, 403 (B) plans, profit sharing pension plans, Keogh plans, and money purchase pension plans. Providers of the retirement funds may include all current and former employers, unions, your spouse, or yourself. The funds may be invested and held with a financial institution or a broker. Even a non-vested retirement fund has been held by the courts to be marital property.
When a spouse has a pension, a Qualified Domestic Relations Order is usually necessary. A "QDRO" is any judgement, decree, or order made in accordance with that state's domestic relations law that relates to the provision of child support, alimony payments or marital property rights of a spouse, former spouse, child or other dependant of the participant, and creates or recognizes the right of another to receive all or a portion of the benefits payable under the retirement plan.
The "QDRO" must be submitted to the Judge for signature along with the divorce judgement. The "QDRO" should be approved by the pension administrator before it is submitted to the court.
Valuing Stocks, Bonds, and Stock Options
A party's interest in an ongoing business, such as a corporation or partnership, is considered a marital asset if this interest was acquired during the marriage. This type of asset is usually in the form of corporate stock, securities, bonds, or a partnership interest in the company. A partnership interest is gained when one is a founder in the particular business, while bonds and securities are acquired usually when a corporation grants stocks or securities as a reward for exceptional work performance. Additionally, when a spouse purchases stocks and/or bonds on the open market with marital funds the value of these stocks and/or bonds are subject to equitable distribution. Since these assets usually increase and decrease in value due to market conditions and not the direct contributions of a particular spouse, these assets are deemed passive and usually valued at the date of trial.
When attempting to value a particular stock, the initial inquiry is whether the business is publically traded or privately held. A publically traded business is one that is registered under the Securities Act. A stock must be registered under this Act when it is a publically traded stock (one traded on an established securities market), if the company has more than $3 million in total assets, or when there are more than 500 shareholders. A privately held company is one in which management and ownership of the company are the same. The stock in the company is held by a small number of individuals and the stock is not registered under the Securities Act.
When valuing any type of property, the general standard that is applied is the fair market value of the item. Fair market value is the amount at which property would be sold by a willing seller and be bought by a willing buyer, when neither is acting under a compulsion to buy or sell, and each is fully aware of all of the facts concerning the item. In order for an item to have a fair market value, there must be a market for the item. This means that one must be able to go out into the market and acquire a comparable item to the one seeking to be valued.
When a stock is traded on an established securities market, such as the New York Stock Exchange, the value of the stock will be easily determined. The fair market value will be the amount at which each share of that particular stock is being traded at. Although the quoted price, the price at which each stock is valued, is usually the fair market value of the stock, this number will not be deemed the fair market value when only a small number of shares were traded on the valuation day or when abnormal conditions dictate the stock exchange quote. In these cases, other methods of valuation are applied. Regulations implemented by the Treasury Department specify appropriate methods for valuing stocks and bonds, each listed in order of acceptability in that a subsequent method should be used only if a previous method is not appropriate.
The first method is to use the mean, the average, between the highest and lowest selling price on the day of valuation. The second method, to be applied when the highest and lowest selling prices for the date of valuation are unavailable, is to obtain the average between the closing price of the stock on the date of valuation and the closing price on the last trading day before the valuation or for earlier sales that occurred within a reasonable period. When there is no selling price available either for the date of valuation or within a reasonable period before or after this valuation date, the fair market value is determined by the mean between the bid and asking price on the date of valuation.
In situations where shares of stock are not registered under the Securities Act, so that they are part of a privately held company, valuation is based on various factors. The various factors that are considered include: the type of business, the growth and stability of the company, the economic outlook of the company including the financial condition of the business, any prior sales of stock in the company, and good will.
An interest in a stock option plan that is provided by the spouse's employer may be marital property and thus subject to equitable distribution when the plan began during the marriage and is contingent on the spouse's continued employment with the company after the divorce. If the stock options were granted to the spouse for compensation for past services they are subject to equitable distribution. However, if they were an incentive for the spouse's future services they are not deemed marital property and this is not subject to equitable distribution.
To determine the value of a stock option one should obtain the plan documents, such as a copy of the Options Statement and the Stock Options Plan. These documents discuss how the company will treat options under various circumstances, such as divorce, and also contain information such as the number and type of options, exercise price, and expiration dates. Additionally, these documents will outline the purpose under which the company issued the options.
There are two main types of options: Investment Stock Options and Non-Qualified Stock Options. The primary distinction is that the former are exercisable or transferable only by the employee, while the latter may be assigned to a spouse, but this income will be taxed to the employee.
Valuing Real Estate
The value of real estate may be obtained through the use of a licensed appraiser. The appraiser will estimate the fair market value of the specified property by analyzing past market activity and current conditions. Factors considered in making this determination include size, location, physical condition, improvements, amenities, and comparable listings of the property.
However, when a client cannot afford an appraiser several alternatives methods to value a property exist. The husband and wife may agree on a value and render an opinion as to the value of the property by frequenting open houses of comparable property, reading real estate sales notices, and by looking at records concerning sales and offer prices of similar property. Additionally, a client could value real estate by obtaining a market value from realtors; this method of valuation being particularity useful in cases where the property will be sold upon the dissolution of the marriage or for negotiation purposes.
Valuation Of Personal Property Such As Household Furnishings And Artwork
Generally, issues concerning the distribution of personal property are resolved among the parties through negotiation or a lottery type process. If necessary, the court or the attorneys of the parties will intervene to resolve this issue by consulting an appraiser to determine the value of the specified property. The value of this property is usually determined by the fair market value, the price at which the property would change hands between a willing buyer and a willing seller, neither one being under any compulsion to buy or sell, and both having reasonable knowledge of the relevant facts.
In order to file for divorce in New York, on spouse must be a resident for one (1) year. However, if the spouses were married outside the state, both parties must live in the state for two (2) years before filing for divorce. These New York residency requirements must be met in order for the court to have jurisdiction over the case.
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