Bair v. Bair
When confronted with quantifying the appreciation of non-marital property, it is common for valuators first to classify the change in value as “active” or “passive” and then do the valuation. A Florida case shows that, when applied prematurely, this active/passive analysis may result in an improper valuation.
The parties fought over the valuation of the husband’s interest in a boat dealership—a family business that was organized as an S corporation. The corporation also owned real property whose value had dropped significantly during the relevant portion of time.
The parties agreed the husband’s ownership interest was separate. They also agreed that the husband’s efforts had contributed to an increase in the company’s value during the marriage. But they disagreed over how much the company had appreciated in value and how much of the appreciation was the result of the husband’s marital labor. The trial court adopted the company valuation the wife’s expert proposed, which was about $1 million higher than the value determination of the husband’s expert. Further, the court largely adopted the wife’s expert’s calculation of the marital labor.
On appeal, the husband contested a number of the trial court’s valuation-related findings.
The wife’s expert had “refused to include” the value of the real property in his company valuation, arguing that the change in value of this asset was passive in nature, that is, the result of market forces rather than the husband’s management.
The husband claimed that excluding a major asset of the corporation from the valuation was a serious error of law that necessitated a reversal of the equitable distribution decision. The Court of Appeal sided with the husband. Florida law requires that the valuation of a company include all of the company’s assets and liabilities, the reviewing court explained. “In other words, the sum of all parts, not a select few, is what encompasses a business’s ‘value.’” Further, it is improper to exclude the appreciation or depreciation of certain company assets as “passive” when one party’s marital labor contributed to the change in value of the company as a whole, as was the case here, the appeals court emphasized.
Had the husband, rather than the company, owned the real estate, the concept of active or passive appreciation might come into play, the appeals court said. In that situation, the passive appreciation or depreciation might be excluded from the term “marital assets.” Here, however, the owner was the company, which the husband’s marital labor “indubitably” increased. By excluding the real estate from the valuation of the company, the trial court overvalued the company by almost $1 million, the appeals court said.
The Court of Appeal also agreed with the husband that the trial court’s valuation double counted retained earnings in favor of the wife. The trial court had discretion to value the company by including the retained earnings and distributing that value. “But having done so, it could not then order distribution of the retained earnings while still valuing [the company] as if the retained earnings were retained as this would result in impermissibly including the same asset twice.”
The appeals court also noted the trial court did not seem to understand what retained earnings were; it considered them to be “some type of corporate savings account, which it is not.” The trial court acted as if the husband, “unquestionably a minority shareholder,” had a direct interest in the retained earnings and could simply order their distribution, when this was not the case, the appeals court said.
Moreover, the husband successfully contested the trial court’s alimony determination. The trial court found that the income for purposes of spousal support was the husband’s K-1 income, which reflected his share of the business income whether distributed or not. Under Florida law, however, undistributed pass-through income the corporation had retained for corporate purposes “must not be used by a shareholder-spouse to satisfy financial obligations imposed upon dissolution of marriage.” If the undistributed income has been retained for non-corporate purposes, to shield it from the reach of the other spouse in divorce proceedings, an improper motive exists that makes the money available as income.
Here, the appeals court found, there was no evidence that the company retained undistributed pass-through income for non-corporate purposes. The Court of Appeal remanded for a new valuation and new spousal support calculations.
The case is Bair v. Bair, 2017 Fla. App. LEXIS 3737 (May 22, 2017).