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FAQs

Frequently Asked Questions Regarding Family Law Matters

Our FAQ section offers detailed information about a full range of important questions that affect divorce cases. The responses address key subjects including business valuation, child custody, spousal support, modification of orders and more. Click on the dropdown menu for a full list of topics, then choose the specific questions applicable to your situation.

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Calculating a rate of return on tangible assets is a component of the capitalization of excess earnings valuation method. The rate of return varies depending on the expert, the general economic conditions and prevailing interest rates. The rate can be described as the “industry rate,” the “rate of return” that one would expect to earn on the specific assets utilized in the type of business in question or the rate that the owner would have to pay to borrow money at his or her bank. The rate of return is multiplied by the value of the tangible assets and the resulting sum represents the portion of the total earnings of the business attributable to the tangible assets. The remaining portion of the earnings are then theoretically generated by the goodwill of the business itself.

Total Earnings
of Business		 $$$$$$
Industry Rate of Return
x Tangible Assets		 < $ >
Reasonable
Compensation of
Owner-Operator		 < $$ >
Excess Earnings of
Business		 $$$

Multiplier / Capitalization Rate Conversion Table

Multiplier Capitalization
Rate
1 1.00
2 .50
3 .333
4 .25
5 .20

Divorces are actions filed with the California Superior Court, and are either settled or litigated in a hearing or trial. Divorce litigation follows the same code of evidence and code of civil procedure as civil and business litigation. Family law views married people as partners, the marriage as a partnership, and a divorce as a dissolution of a partnership. A dissolution can be peaceful or hostile, and can be resolved through a settlement or litigation.

Legal child custody addresses the right and responsibility to make decisions regarding a child’s health, education, and welfare. Parties are generally awarded joint legal child custody in Orange County Superior Court.

In unique situations, a family law court may award legal child custody to one parent in a designated area: education, extra-curricular activities, or medical issues. This type of child custody order may be made when the parties have a history of high conflict in one of these specific areas, and have demonstrated an inability to co-parent.

Most courts in Orange County are reluctant to make orders designating which school a child should attend, and courts will often award legal child custody to one parent on educational issues and authorize that parent to make the school selection decisions.

Physical child custody addresses where a child resides.

Parties may have joint or sole legal child custody and physical child custody.

Physical and Legal Custody

It is not necessary to present evidence in the divorce trial to show a change of circumstances in order for the divorce court to have the ability to order a higher award of spousal support than it ordered for temporary spousal support (IRMO McNaughton). The family law courts look to different issues when determining permanent spousal support than when determining temporary spousal support. Temporary spousal support is designed to maintain the ‘status quo’ while permanent spousal support is based on the Family Code § 4320 factors.

The divorce court may not use the amount of temporary spousal support order as the basis for making a permanent spousal support order (IRMO Schulze).

Spousal Support

A divorce court must order one or both parties to maintain health insurance for the children, if available through employment at no or nominal cost.

A divorce court will generally order each party to pay all, or a portion, of a child’s medical expenses not paid by insurance. The court can order the parties to pay disproportionate shares of health costs.

Child support laws do not distinguish between children of married people and children of unmarried people. Unmarried people may find themselves in family law court addressing child support issues.

Child support is far more involved than simply inputting salaries into a computer program. The definition of income can be very complex. A party may be ordered to pay for additional expenses referred to as “add-ons.” Add-ons may include such things as activity costs, child care, medical costs not paid by insurance, health insurance premiums, schools costs and travel costs. Other issues addressed in the family law court may include the imputation of income, determining the representative period of past earnings and the treatment of fluctuating income.

A family law court may order “add-on” costs be divided between the parties disproportionally.

Base level of child support may be supplemented with child support paid on additional income received over the base salary. This supplemental child support is referred to as and “Ostler-Smith” payment.

The specific calculation of custodial time sharing impacts the amount of the child support order.

Child support laws do not distinguish between children of married people and children of unmarried people. Unmarried people may find themselves in family law court addressing child support issues.

Child support is far more involved than simply inputting salaries into a computer program. The definition of income can be very complex. A party may be ordered to pay for additional expenses referred to as “add-ons.” Add-ons may include such things as activity costs, child care, medical costs not paid by insurance, health insurance premiums, schools costs, and travel costs. Other issues addressed in the family law court may include the imputation of income, determining the representative period of past earnings and the treatment of fluctuating income.

A family law court may order “add-on” costs be divided between the parties disproportionally.

Base level of child support may be supplemented with child support paid on additional income received over the base salary. This supplemental child support is referred to as and “Ostler-Smith” payment.

The specific calculation of custodial time sharing impacts the amount of the child support order.

It is rare that a business is sold as a result of the divorce. Unless there are very unique circumstances, a business is awarded to the operating-spouse. If the parties operate a business together and both seek an award of the business, it is generally awarded to the party that is most critical to its continued success. It would be rare for a divorce judge to award a business jointly to the parties. Continued joint ownership would most likely occur only if the parties were to agree.

On occasion, the operating-spouse of the business opposes having the business awarded to him. Rarely does a court order a business sold and even more rarely is a business awarded to the non-operating spouse. The operating-spouse often believes that there would be no business without him or her and he or she may be correct. However, to joint ownership in a divorce, that fact is not a determinative factor in the award of a business or the value of the business. Generally, the operating-spouse does not have the option to ‘shut down’ the business without the likelihood of being charged with the value of business as it existed before its closure.

A court may award a business to a party who opposes receiving the business as a part of his or her share of the community property (IRMO Rives).

Disposition of the Business

Initial Characterization of Business

Lump-sum severance compensation is to be spread out over the term of employment for which it is being paid and not allocated to the month in which it is received (IRMO Tong and Samson).

In family law matters, valuation experts render opinions as to the operating-spouse’s total controllable cash flow. Determining cash flow is not simply looking at the income or tax returns of the operating-spouse.

Income generally does not equal cash flow. A business may recognize significant income but have little or no cash flow in a particular year. On the other hand, a business may make substantial distributions in a year and have little or no income.

The amount of the controllable cash flow can be a significant source of conflict between the experts. Cash flow can be based on the income approach or the distribution approach. Cash flow generally includes the compensation of the operating-spouse, various perks and in certain situations the profits of the business. In divorces there can be an issue as to what portion of the profits could be distributed to the owner without adversely impacting the business operations which relates to the working capital needs of the business. Obviously, profits should not be added to cash flow if it would jeopardize the business’s ability to remain current on its debts and remain solvent.

Economic depreciation (vs. non-economic depreciation) should generally be added back to cash flow.

Compensation

In arriving at a goodwill value, the following factors, are considered: total compensation of operator-owner, reasonable compensation, rate of return on tangible assets, and multiplier/ capitalization rate.

Goodwill

How is Goodwill Defined in a Divorce?

Goodwill is defined as the expectation of future patronage. In other words, goodwill is defined as the likelihood that the business will continue to attract customers.

The value of a business is a combination of the net value of the assets of the business (assets minus liabilities) plus the value of goodwill.

Goodwill cannot be based on post-marital efforts of a spouse (IRMO Foster). Goodwill must be calculated using the historical financial performance of a business over a representative period of time, which is generally five years (IRMO Rosen and IRMO Aufmuth).

It is not fair to say that all businesses have goodwill, but goodwill must be addressed and allocated on the marital balance if it exists (IRMO Golden). Business goodwill must be valued and allocated, but at least one repeated case says that individuals do not have goodwill (IRMO McTiernan and Dubrow). A licensed financial advisor’s client list has a value akin to goodwill (IRMO Finby). The divorce court may average valuation methods in arriving at the value of a business (IRMO Webb). Publicly traded companies are valued differently than privately held companies, and divorce courts are not allowed to use publicly traded price earnings ratio in valuing a privately held company (IRMO Lotz).

The terms of a partnership agreement may limit the community’s interest in entity goodwill, under certain circumstances (IRMO Iredale and Cates).

The divorce court may make a non-competition order to protect a spouse’s value in the business that they is buying from the community in a divorce (IRMO Greaux and Mermin).

A potential speculative non-competition agreement cannot be considered in the valuation of a business (IRMO Czapar). A business valuation cannot be adjusted by the hypothetical value of a potential future employment contact (IRMO Duncan).

Child support is calculated using a computer program (Dissomaster/X-Spouse), taking into consideration a number of factors including: the parent’s respective incomes, child custody timeshare, deductions, etc.

Divorce courts are required to find the amount of guideline child support. That sum will become the order of the divorce court, unless the court departs from the guideline child support, which the court can do for ‘good cause.’ Departures from guideline child support may be, but rarely are, ordered. A divorce court has the discretion to set child support below the guideline amount, if the payor-parent is found to be a ‘high-earner.’ If a finding of ‘high-earner’ status is made, then the divorce court must first determine the guideline child support level. After the guideline child support is determined, the divorce court is required to find whether it is the child’s best interest to receive child support below the guideline level of child support.

Child Support

Child Support

Only if the court finds that the guideline child support is unjust, will the court depart from the guideline child support and reduce the amount of the child support.

Generally, the amount of child support will increase if the payor-parent’s income increases. However, it will not necessarily increase to the guideline level, if the amount of the parent’s income results in a finding of ‘high-earner’ status. The divorce court has wide discretion determining whether a parent is a ‘high-earner,’ and as to whether to depart from guideline child support. The income level that justifies a ‘high-earner’ finding may differ from county to county, and from courtroom to courtroom, within the Orange County Superior Court.

A divorce court may also depart from guideline for other equitable or economic reasons, if it finds ‘good cause.’ ‘Good cause’ may be found when a child’s special needs are involved, when there are special education related issues, in situations where there was a deferred home award, where the recipient parent is not paying for their share of child expenses relative to that parent’s time share, travel expenses, and other circumstances where, without a departure from guideline the child support level, would create inequitable and unjust results.

Income Available for Support

An agreement to pay child support in excess of guideline child support is not modifiable downward to the guideline amount, unless the payor-spouse’s income decreases and such a decrease constitutes a material change in circumstances.

A change in the income of either parent, or in the custody timeshare between the parents, often results in a modification of child support.

The divorce court does not have jurisdiction to retroactively alter child support relative to a period prior to the filing of a request for modification of child support by a parent.

Time Share Factor

Income Factor

Life insurance is an often overlooked asset in divorces. It may or may not be a significant issue but it most certainly should not be overlooked.

Life Insurance

There are two distinct approaches to determining the reasonable compensation of the operating-spouse. Differences of opinion in this area can lead to very significant differences in the values assigned to goodwill. One approach looks to the annual salary of a typical salaried employee who has similar experience to that of the owner-spouse. The other approach looks to the ‘similarly situated professional’ which is an approach that was addressed in the Orange County divorce case IRMO Ackerman. Using this approach, the divorce court looks at the cost of hiring a non-owner outsider to perform the exact duties as does the owner-spouse. This approach would assume that the individual had the same skill set, same contacts, same work ethic, etc. as the owner-operator. This approach generates a lower goodwill value than does the other approach.

Compensation

Spousal support may be structured in a variety of ways to address the needs and circumstances that exist at the time the order is made. Generally, the payments are paid monthly in equal amounts; however, they may be structured with two components: 1) monthly payments, based on the payor’s base income and 2) periodic support payments equal to a percentage of fluctuating or supplemental income that exceeds base income received periodically by the payor. The second component, called an “Ostler-Smith” order, may be appropriate where the payor’s income fluctuates.

The Ostler-Smith Order

If the value of a separate property business increases in value during the marriage, and the increase itself results from the natural enhancement of the asset, the increase will be allocated to the separate property of the owner-operator separate property. (Estate of Ney). However, if the increase results primarily from the work, effort, and industry of the owner-operator spouse, the community may be entitled to receive reimbursement of a portion of that increase. (Cozzi v. Cozzi). The right, if it exists, is not an ownership interest in the business – it is a right to reimbursement. (Patrick v. Alacor Corp. (Patrick I) and Patrick v. Alacer Corp. (Patrick II)).

The marital standard of living may be based on the party’s actual recurring living expenses or it may be based on the net income of the parties. The theory that gives rise to using the net income approach, simply characterizes savings and investments as a life style choice. This approach does not distinguish between spending money on a vacation and spending money on stocks and bonds (IRMO Winter / IRMO Drapeau / IRMO Weinstein).

The custodial time awarded to each party impacts the amount of child support calculated by the guideline formula.

A divorce court has the discretion to use approximate percentages in setting the custodial time share (IRMO Rosen and IRMO DaSilva). Alternatively, a court may literally count the hours and calculate the exact actual time share.

A divorce court may attribute timeshare credit to a party while a child is actually attending school (IRMO Whealon and IRMO Katzberg) or sleeping, if the party is responsible for the child during those hours.

Tracing may be used to characterize bank or brokerage accounts. It may also be used to trace separate funds used to purchase an asset that is titled in joint names. Tracing is also used relative to certain reimbursements to the separate property of one spouse or to the community.
There are three ways that tracing can be accomplished:

  • Direct Tracing (Mechanic)
  • Family Expense, Recapitulation
  • Other Non-Speculative Methods

Additionally, tracing may be used to trace personal injury proceeds deposited in joint accounts and this tracing may have more relaxed tracing requirements for equitable reasons.

See our Characterization and Division of Complex Assets Practice Area Page