Ohio court provides test for tax affecting in divorce valuations

BVWireIssue #161-1
February 3, 2016

Conflicting law on whether to tax affect in divorce cases has valuators practicing in Ohio confused. A recent decision from the state appeals court aims to clarify matters by providing a test for when not to do it.

An Ohio divorce statute requires that “the Court … consider the tax consequences of the property division upon the respective awards to be made to each spouse.” But under case law the consideration is only proper “as long as those consequences are not speculative.” In litigating the value of the ownership interests a 44-year-old orthopedic surgeon held in four businesses, the parties focused their fight on the word “speculative.”

Current tax rates: Both sides retained experts whose pretax valuations were close. The husband’s expert determined the value of all interests before accounting for taxes was about $4.74 million. The wife’s expert arrived at an aggregate value of just above $5 million.

The husband’s expert also performed a valuation that tax affected, using the current tax rates. He maintained that, since the current tax rates and the husband’s current income were known, the valuation was not based on speculation. He added he did not believe the tax rates would change much in the near future. This calculation reduced the value by over $1 million. The wife’s expert did not tax affect because it was “speculative” and not done as “a general practice.” The wife argued that factoring in the tax consequences where the asset was distributed at divorce but not liquidated at the same time was improper.

The trial court sided with the husband even though “the considerations and offsets made at this time may in fact not be actually what would occur at the disposal of the asset in the future.” However, the wife’s position would make it impossible to consider the tax consequences except in a case in which there was an immediate disposition of the property. The court valued the husband’s interest at approximately $3.3 million.

‘Too speculative’: The wife appealed and prevailed. The Court of Appeals noted that prior decisions that have found taxes were “too speculative” involved the following situations: (1) It is uncertain whether, or at what point in the future, a business will be sold; (2) it is uncertain that the tax rates will be similar in the future; and (3) a sale is not made necessary by the trial court’s division of the marital assets.

All these factors were present here, the appeals court said. The husband indicated a desire to sell his businesses at the time of retirement, but the retirement date was uncertain. And retirement hardly was imminent considering the husband was only 44 years old. Further, the trial court used the current tax rates, but doing so required it to assume the rates would be the same or substantially the same in the future. But, said the appeals court, by the time the husband was ready to sell his business interests, “they could be worth far more, or far less.” Therefore, a court would “necessarily” engage in speculation if it imposed “a present-day tax-affect upon the value of the businesses in this case.” Finally, there was no indication that the distribution of the assets required the husband to sell his businesses.

Takeaway: The appeals court struck down the trial court’s tax-affected valuation as “too speculative” because the owner spouse did not contemplate a sale anytime soon and the distribution of assets did not require him to sell his business interests.

Find a discussion of Nieman v. Nieman, 2015 Ohio App. LEXIS 5021 (Dec. 14, 2015), in the Business Valuation Update; the court’s opinion will appear soon at BVLaw.

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