The problem of double dipping occurs when the same asset is considered both a marital asset (for property division) and a source of income.
By Shannon Pratt and Alina Niculita, Valuators
One of the most prevalent problems in family law cases involving a business or professional practice valuation is “double dipping.” By double dipping we mean computing a value based, at least in part, on the spouse’s future earnings for property division, and then using the future earnings capacity as a basis for determining spousal support or alimony payments.
The potential for this problem arises when an income approach, an excess earnings method, or a market approach is used for the valuation. If these methods reflect an implication that the operating spouse will continue to operate, the value of that spouse’s future efforts is impounded, at least to some extent, in the distributive value. If payments are then ordered out of the earnings from that spouse’s efforts, double counting is the potential result.
This problem is exacerbated in those jurisdictions that consider personal goodwill to be a marital asset. Personal goodwill is a function of future earning power resulting from the persistence of patronage of the individual. If this value is fully reflected in the distributive asset, then this earning power is being used twice if it is the basis for future payments to the nonoperating spouse.
This problem can be avoided if the valuation methodology truly follows the philosophy of not being dependent on future efforts (or restrictions on efforts) of the operating spouse. However, as noted earlier, many court decisions espouse this philosophy, but then accept valuation methodology that actually incorporates an assumption of the operating spouse’s continuing efforts, or restrictions on those efforts.
Problem of Double Dipping: A Look at Some Court Decisions
In Steneken v. Steneken, the trial court determined that the husband’s annual compensation was excessive and normalized the compensation in determining the value of his company using the excess earnings method. The court then determined alimony using the husband’s actual annual compensation – which was $50,000 more. The husband argued that distributing his excess earnings as the goodwill portion of the value of his business, and also considering it for alimony purposes, was impermissible double counting.
The New Jersey intermediate appellate court ruled that the value of the business was as of the date of dissolution and was based on past excess earnings, whereas the alimony determination was based on future income. The court also noted that even if this was double counting, it was not banned by New Jersey law, which bans only the double counting of pensions.
The New Jersey Supreme Court expressly rejected the premise that because alimony and equitable distribution are interrelated, a credit on one side of the ledger mandates a debit on the other side. Instead, the court focused on the “bedrock proposition” that all alimony awards and equitable distribution determinations must satisfy basic concepts of fairness, and that – although clearly interrelated – the structural purposes of alimony and equitable distribution are different.
Accordingly, the court rejected the husband’s assertions of double counting, saying that the husband “mistakenly equates the statutory and decisional methodology applied in the calculation of alimony with a valuation methodology applied for equitable distribution purposes that requires that revenues and expenses, including salaries, be normalized so as to present a fair valuation of a going concern.” The court concluded that it is not inequitable to use a valuation method that normalizes salary in an ongoing closely held corporation for equitable distribution purposes and to use actual salary received in calculating alimony – the valuation methodology chosen for equitable distribution purposes should not alter the alimony award. According to the court, the “interplay of those two calculations does not constitute ‘double counting.’” The ultimate judicial inquiry must be whether the ultimate result, both in toto as well as in its constituent parts, is fair under the circumstances and congruent with the standards set forth in the alimony and equitable distribution statutes. The court also rejected the distinction made by the appellate court between the fact that “valuation of the corporate asset was based on [the husband’s] past earnings, not his future earnings,” whereas “[the husband’s] actual current and future compensation may be treated as income for alimony purposes.”
Justice Long, in a dissenting opinion, agreed with the husband that the majority’s holding would allow the impermissible double counting of income (albeit not dollar-for-dollar). Justice Long’s position was that the majority converted a certain amount of the husband’s projected future income stream into an asset and then calculated the amount of alimony based on that asset. According to Justice Long, this was improper, as “[o]nce a court converts a specific stream of income into an asset, that income may no longer be calculated into the maintenance formula and payout.” Instead, Justice Long’s solution would have used the appellate court’s approach, which neither allows the unfettered dual use of a single income stream nor requires the use of the same figure for both calculations. “Rather, judges should be able to use the ‘real’ income for alimony and the ‘normalized’ income for the corporate valuation so long as the ultimate outcome recognizes that a single income source (the difference between the real and normalized income) played a part in both.”
It is arguable that to the extent the court used excess compensation as the basis for alimony, the court used that money twice: once to value the distributed value of the business, and again to determine the amount of alimony – a classic case of double dipping.
In Sampson v. Sampson, the value of the wife’s insurance agency was offset in the husband’s property distribution and then was counted as credit towards his alimony support obligations. The wife argued that this was double counting. Because there were inconsistencies in the experts’ reports concerning owner salary, the court was unable to determine whether double counting had occurred, and it remanded the case for further factual determinations on this issue.
The court in Champion v. Champion, noting that there is a split among jurisdictions on the issues of what constitutes double dipping and whether it ought to be prohibited as a matter of law, rejected a claim of double dipping and found the business to be both a marital asset and a source of income.
In Keane v. Keane, New York’s highest court held that the prohibition against double counting applies only to intangible assets, such as professional licenses or goodwill, or the value of a service business – not income-producing tangible assets such as a rental property.
In Sander v. Sander, the court ruled that it is not double counting to assign a value to a business, as well as to attribute gross income from that business to the spouse, without adjusting either. Where the trial court, in its discretion, valued the company at a value it would have to a buyer who would pay a manager’s salary, the court’s decision was upheld as both logical and supported by the record.
Shannon P. Pratt, CFA, ARM, ABAR, FASA, MCBA, CM&AA, is the founder and Alina V. Niculita, CFA, ASA, MBA, is the president of Shannon Pratt Valuations, Inc., a national business valuation firm located in Portland, OR. Dr. Pratt has more than ten books in print on various business valuation topics including valuations for marital dissolution purposes and he has testified on hundreds of occasions in various types of litigated matters including divorce cases. Ms. Niculita manages valuation engagements at Shannon Pratt Valuations and has contributed to several business valuation books. www.shannonpratt.com.
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