Under some state laws, a court, in granting a divorce, must equally dispose of community property between the parties unless it finds a compelling reason set forth in writing to make an unequal disposition. Separate property of one spouse is all property owned by the spouse before the marriage or property that the spouse acquires through gift, bequest, device, descent, or a personal injury award. Contrarily, community property is all property not determined separate property that is acquired after the marriage by either spouse or both spouses, excluding property in a pre-marital agreement or a decree of separate maintenance. While this notion for some states is conceptually easy to understand, complications arise when a spouse claims that the increase in value of a separate property business during the marriage is considered community property.
As an insurance bad faith lawyer can share, when determining how much of this increase in value from a separate property business during the course of the marriage is community property, lawyers turn to two California cases. The first is Pereira v. Pereira, which focuses on allocating “a fair return on the investment to the separate property,” allocating any excess to the community. Cord v. Neuhoff, 94 Nev. 21, 26, 573 P.2d 1170, 1173 (1978). The second is Van Camp v. Van Camp, which focuses on allocating the community “an annual sum equal to the salary which would have to be paid an employee” for their services, treating the “balancing as separate property attributable to the normal earnings of the separate estate.” Id. Pereira used to be the preferred approach. However, it is recognized that a court may use either approach “as the circumstances warrant,” meaning it will select the approach that “will achieve substantial justice between the parties.” Schulman v. Schulman, 92 Nev. 707, 714–715, 558 P.2d 525, 530 (1976).
The following example is how the Pereira approach functions. A judge determines that the value of the business at the date of the marriage is $200,000, the value of the business at the date of divorce is $600,000, and the rate of return is 10%. The parties were married for five years. The equation begins by multiplying the return on the owner’s initial value of $200,000, which would yield a $20,000 return. Next, multiply this by the years the individuals have been married, equaling a total return of $100,000. You then add this value to the initial value at the date of the marriage, which would be $300,000. This is the owner’s separate property interest. Lastly, you subtract this value from the value at the date of the divorce ($600,000), which would be the community property interest. Thus, $300,000 would be considered the separate property of the owner’s spouse, while the remaining $300,000 would be considered community property that will be disposed of equally unless the court finds a compelling reason outlined in writing to allow an unequal disposition.
In the Van Camp approach, an expert will determine the “reasonable compensation” for each spouse’s job. “reasonable compensation” is the amount of salary paid to an employee performing the occupational roles of each spouse during the marriage. This is used with industry databases by business valuation experts who will testify to the trial judge about these salary figures. The trial judge then determines reasonable compensation for all of the community efforts during the marriage and compares them to the total wages paid to one or both spouses. Suppose the reasonable compensation owed to the spouses is less than the amount received in wages. In that case, the judge declares the differential amount as a community asset paid to the community. From this, the community contains no further claims against the business. Therefore, any increase in value during the marriage would be considered the separate property of the owner-spouse.
If you are facing similar issues, you should contact a lawyer near you for help. Despite its complexities, both approaches function similarly, allowing a spouse who is not considered the owner-spouse to receive some of the business value in a separate property business. The court will determine which approach works best, typically under the standard of achieving substantial justice. Nonetheless, these two cases allow a court to equally dispose of some of the business value of a separate property business.
Thanks to Eglet Adams for their insight on this allocation of business value using the Pereira and Van Camp cases.