Written by Tracy Katz, Esq. C.P.A./C.F.F.
What is a forensic accountant?
When I tell people what I do for a living I am often asked, “does that mean you count dead bodies?” After chastising them for watching too many “criminal investigation” shows on television, I explain forensic essentially means pertaining to litigation; hence forensic accountants provide expert work in the field of accounting. We are the expert witnesses dealing with matters of fraud, economic damages, business valuation, partnership and marital dissolutions, etc. Basically, any civil or criminal practice requiring the expertise of an accountant, will rely the services of a “forensic accountant.”
Who needs one?
Now that you understand what a forensic accountant is, let’s discuss why some marital dissolutions require the services of one, and some never need utter the words “forensic accountant.” There are basically two financial parts to a family law matter, support (child and or spousal) and property division. The more basic the income and the assets are, the easier a dissolution is. An uncomplicated dissolution may be the following: both spouses got married very young, own very little, have no children and are salaried employees of a company they do not own. Essentially, if a couple’s finances are straightforward a forensic accountant is likely not needed. And, straightforward or uncomplicated doesn’t necessarily mean the parties make insignificant sums of money.
Whether you make $50,000 or $500,000 per year, if you receive a W-2 at year end, and your compensation is a straight “salary,” in California, you can usually get divorced without the need for expert advice from an accountant; your attorney, or you, if you are self-represented, can fill out the Court forms. Why, you ask? Because the disclosure forms you are required to complete to get divorced in California, and the software used to calculate support, were written and designed for people with simple financial circumstances. The Income and Expense Declaration (I&E), is very easy to fill out when you only have an annual salary and minor amounts of interest and dividend income. Additionally, in California, each spouse’s income is considered in determining guideline child and spousal support. If each spouse receives a “salary” the programs which calculate guideline child and/or spousal support are easy to navigate; they require you do nothing more than simply entering that monthly or annual amount of compensation. If you fall into the above category, congratulations...you should have an uncomplicated, and comparatively speaking, an inexpensive marital dissolution! (If only!)
Do you or your spouse own a business?
There are many instances which may necessitate the retention of a forensic accountant. What happens when a spouse’s compensation is complicated, i.e. it includes vested or unvested stock options, trust distributions, perquisites, or phantom income, or deferred compensation? Or, what if one or both spouses have separate property? What if there is a pre or post nuptial agreement requiring certain calculations? What if one or both spouses own their own business? In these instances, a financial expert is usually required. Forensic accountants may also be retained in paternity matters, as opposed to dissolution matters, to calculate child support and/or payments due pursuant to a cohabitation agreement. Okay, let’s get into more detail about the some of the more complex financial estates which often necessitate the use of forensic accountants.
If you or your spouse own a business, that business will likely need to be valued as part of the dissolution. This can be done by a qualified business appraiser or a qualified forensic accountant; often times in family law matters, they are one and the same. Since California is a community property state, each spouse is supposed to receive one-half the marital property upon dissolution. If one spouse is receiving the business as part of the property division, it must be valued, so the other spouse obtains property of equal value. This is further complicated if the spouse who owns the business, owned it prior to marriage, and it increased in value during the marriage; Then that business may need to be apportioned between community and separate property, as only the community value is subject to property division. If the increase in value is principally a result of the spouse’s efforts, the business would be valued at the date of marriage to determine the separate property, and again, at date of separation. The increase in value, less a rate of return accreted to the separate property, would be the community property value in the separate property business. This valuation and apportionment work would likely be completed by a forensic accountant.
Further, if you own a business, you can control the amount and form of “income” or “cash flow” you receive. For example, like many people who own/operate their own business, you may pay personal expenses from that business. Forensic accountants are usually more diligent than the Internal Revenue Service (IRS). You may have “gotten away with” deducting personal expenses on your business’ income tax return, however, those personal expenses, or perquisites, are compensation. Forensic accountants sometimes undertake detailed perquisite analyses, reviewing the business’ general ledgers and paid invoices to ascertain the business or personal nature of an expense. General ledger categories typically containing personal expenses are, travel, automobile, entertainment, meals, promotion, due and subscriptions, etc. If an expense is personal, it is treated as cash flow to the owner. Business owners also determine when, and how much, profits to distribute from the business. If a business needs funds for reinvestment, an owner will pay income taxes on the business’ income, without ever receiving money in their pocket, as that income was reinvested. This results in “phantom” income, which requires special treatment in the support calculation programs; forensic accountants understand how to do this.
What about inherited wealth and/or property from my family or theirs?
Needing to “trace” separate property may also require a forensic accountant. If you had assets prior to marriage, or inherited wealth during marriage, which you failed to maintain separately from the community earnings, you would want to trace those assets at separation to “get them back.” A tracing requires characterizing all sources and uses of funds, as separate or community property, and ascertaining what of each still exists as of separation. As you can imagine this gets complicated when both separate and community funds are commingled in active brokerage accounts or when investments are made from bank accounts containing co-mingled funds. The tracing determines the character of the assets. Forensic accountants are often called upon to do this detailed work.
What's the difference between Community Property and Separate Property?
Compensation paid in stock grants or Restricted Stock Units (RSU’s) have implications both on support and property division. A forensic accountant can apportion the equites between community and separate property, based on mathematical formulas set forth in case law which recognize the date of grant, date of vest, and date of separation. Once vested, even if not exercised, such equities become income available for support. A forensic accountant is typically responsible for this computation.
How does all this effect spousal support?
Forensic accountants are also called upon to help determine a spouse’s marital standard of living, by analyzing income and or spending depending on the facts of the case. If the parties have a contractual agreement governing their dissolution, which specifies certain calculations of community and/or separate property, a forensic may be used to assure compliance with that agreement. The more complicated the sources of income are, or the more complex the assets and debts are, the more likely it is a forensic will be retained. As described, there are lots of reasons why attorneys may rely upon forensic accountants, not the least of which is, as one attorney once said to me, “I went to law school because I didn’t like to do math! Help!”
Tracy Katz is a partner at Gursey | Schneider in the firm’s litigation support department, specializing in forensic accounting in family law and civil litigation matters. She has performed a wide range of litigation accounting services including: business appraisals, determination of gross cash flow available for support, determination of professional goodwill, net spendable evaluations, pension plan allocations, stock option apportionments, characterization of assets, reimbursement claims analyses, marital lifestyle analyses, and contract and royalty analyses in the film, television and music industries. To reach her via email, send inquiries to firstname.lastname@example.org
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