A look into Canadian critical financial errors in divorce: incorrect data entries, after-tax income in the determination of spousal support and more.
Compiled by Justin A. Reckers, CDFA™
Canadian Certified Divorce Financial Analysts™ highlights some critical financial mistakes made by lawyers during a divorce.
Canadian Critical Financial Errors in Divorce
Failure to Update Wills
Very early on in the divorce process, the divorcing parties should agree to update their Wills (perhaps without addressing their property if they haven’t agreed on property division yet). It is critical for each soon-to-be-ex-spouse to at least rename their Executors or estate Trustees and Powers of Attorney for Health and Property – otherwise, if someone dies during the divorce process, the situation could be much messier and more difficult to sort out and resolve.
– Joanne Dereta (MBA, CFP, RFP, CIM, CDFA, CPCA, TEP) practices in Toronto, ON.
Failing to Resolve Income Tax Claims for Separated or Divorced Parents
Once couples separate, there are benefits available to some clients and more importantly, there are significant tax deductions and claims available to separating and divorcing parents. CRA has strict rules for most of these. Most of the time, these items are never discussed and never included in the legal separation agreement. Couples are left to work it out or fight it out come tax time. I have spent a great deal of time speaking with CRA and researching these matters as CRA is beginning to give separated parents making these new claims a very difficult time; including these items properly in the legal agreement makes it so much easier. Even some accountants give clients differing opinions on certain items and even a call to CRA in certain areas will yield different answers. The most pressing and largest of these is the Dependent Amount, Child Care, and various other credits. An appropriate way to handle is to get accurate advice and include in legal agreement.
Valuing Non-Vested Options on the Net-Worth Statement
Lately, I have seen some clients whose lawyers are advising them to include their non-vested options and units as property for division; this is not appropriate for many reasons and need to be handled in other ways.
– Sharon Numerow (CDFA™) practices in Calgary, AB.
Inadequate Knowledge of Canadian Tax Rules
Recently, I saw a signed Separation Agreement that contradicted the Income Tax Act (ITA); the couple walked away thinking they could do something they couldn’t. The lawyer had written into the agreement that the couple could alternate claiming the eligible dependent credit for their one child, even though the father was paying child support. This is not permissible under the ITA, and a Separation Agreement does not take precedence over the ITA.
Sloppy or Incorrect Data Entry
There is a real problem with professionals who don’t know how to enter data correctly in DivorceMate. I have seen several cases where the lawyer (or his/her assistant) simply entered line 150 data without regard to all the other data required for proper input – and the resulting child support and spousal support range can be significantly out of line with what they should be had the data been entered correctly and completely.
– June Oliver (CGA CFP EPC FDS CDFA) practices in Oakville and the GTA, ON.
Spousal Support – A Taxing Issue
We had a recent case in which the lawyers and the mediator took the position that using after-tax incomes in the determination of spousal support payments was acceptable and equitable. Their reasoning was that: “It was done all the time.” In fact, it is neither acceptable nor equitable: CRA will not accept a court order or written separation agreement declaration that the after-tax spousal support payment is non-taxable to the recipient and non-deductible to the payor (Justice Jerome A.C.J at page 254[DTC.5473]). CRA has and will continue to tax the net, allegedly, non-taxable support payments received by the recipients despite what the written separation agreement states. Given CRA’s fondness for double-dipping, it is probable that the payor would also not be able to refile and claim a deduction – even though the recipient amount was now taxable. The after-tax approach is rarely equitable assuming that the payor’s average/marginal tax rate is significantly higher than the recipients. Simple arithmetic demonstrates that the recipient under the after support calculation tax scenario is forced to use the higher average/marginal tax rate resulting in a significantly lower spousal award. Clearly, any determination of spousal support payments must be done on a pre-tax basis, and the recipient should be allowed to do his or her own tax planning.
– Terence A. Dooley (CA, CFP, CDFA) and Glenn McMichael (CFP, CDFA, EPC) practice in the Greater Toronto Area.
Failure to Advise Clients to Arrange for Proper Insurance
Lawyers neglect, misunderstand, and underestimate the value of advising their clients to consult a financial professional as soon as possible to arrange for proper life and health insurance; for instance, having a Critical Illness policy in place before they go through the energy-draining process of divorce can be crucial. The enormous stress associated with divorce can lead to health issues that could make the person uninsurable; more important divorces often lead to critical illnesses. In addition, many divorcing clients may be losing their benefits associated with their spouse’s plan. Insurance is especially important for a custodial parent. I had one case where the custodial parent would be paying spousal support to his ex-spouse; his lawyer advised him to offer monthly spousal support of $1,000 to the other spouse “to make a good impression to the court.” Meanwhile, his monthly gross income was $4,000; after spousal support, taxes, and deductions, he barely had enough to take care of the basic needs of his three very young children – with no insurance and no emergency funds. What happens if he gets sick? Lawyers should strongly encourage their clients to obtain insurance and to create emergency funds as early as possible in this process.
– Maria N. Angelova (CFP, CDFA) practices in Toronto, ON.
This list was selected by Justin A. Reckers, CFP®, CDFA™, AIF. The Chair of IDFA’s Communication Committee, Justin practices in San Diego, CA. To learn more about how a CDFA™ can help you and your client address the financial issues of divorce, go to www.InstituteDFA.com/Lawyer.