Tracing Investment Accounts in Divorce

Posted on 05.24.17

Tracing Investment Accounts in Divorce

By Ethan H.R. Hitchcock, CPA/ABV, ASA, Manager | Valuation and Forensic Services In previous articles on valuing marital assets entitled Who Gets the Family Bible? Division of Hybrid Property in Divorce, Part I and Who Gets the Family Bible? Division of Hybrid Property in Divorce, Part II, I discussed several methods to quantify the separate and marital components of real estate. Now, I will discuss quantifying the separate and marital components of 401(k)s, IRAs, and other retirement and investment accounts (collectively, we will refer to these as “investment accounts”).  Stay tuned for the fourth installment of this series, “King Solomon’s Baby Splitting Method.” As set forth in Code § 20-107.3, the standard for the division of marital assets in Virginia is equitable distribution.  While the Code provides definitions of marital and separate property, it does not explicitly state how to quantify hybrid property.  Accordingly, several methods have been used in practice to attempt to quantify the separate and marital portions of hybrid property. This article will discuss using the source of funds and the specific identification methods to quantify the separate and marital portions of hybrid property, but this is by no means an exhaustive discussion.  Further, this article addresses the treatment of passive appreciation in an investment account.  Cases that involve active appreciation open an entirely different can of worms and are beyond the scope of this article.

Source of Funds Formula

There is Virginia case law in which the source of funds formula has been accepted by the Courts for purposes of classifying the separate and marital portions of property.[1] Source of funds formula is presented below:

MI =      MC     x    V
  MC+SC  

  Where:

MI   = Marital interest in subject property value
MC  = Marital contribution to acquire subject property
SC   = Separate contribution to acquire subject property
V     = Value of the subject property, generally net of liabilities on the subject property

  While the source of funds formula is traditionally applied in calculating the separate and marital components of real property, the formula may also be used to estimate the separate and marital components of investment accounts.  The value of an investment account is generally reported on an interim basis in either monthly, quarterly, or annual account statements.  Consequently, the source of funds rule can be applied to identify and allocate interim gains and losses on account value (i.e. appreciation or depreciation) period to period (i.e. month to month, quarter to quarter, or year to year) to separate and marital property from the date of marriage through the date of trial.

Specific Identification

Another method that may be used to allocate the separate and marital components of an investment account is specific identification.  With specific identification, the securities and funds held at the date of marriage are traced from the date of marriage to the date of separation or date of trial and remain separate property, with any additional deposits, withdrawals, purchases, etc. classified as marital, separate, or hybrid property based on the facts and circumstances of each transaction.  Turnover in an investment account can make specific identification difficult, if not impossible, to implement; however, just because specific identification cannot be used does not mean the value of the entire account is marital.  Va. Code § 20-107.3(A)(3)(g) states that “when the separate property of one party is commingled into the separate property of the other party, or the separate property of each party is commingled into newly acquired property, to the extent the contributed property is retraceable by a preponderance of the evidence and was not a gift, each party shall be reimbursed the value of the contributed property in any award made.”

Summary

As previously mentioned, the methods described here to allocate the separate and marital components of an investment account represent two possible alternatives that may be considered.  Certain venues, Courts, and judges may have a preference for a particular approach.  In addition, the facts and circumstances of the divorce (e.g. one party’s infidelity) may also impact the award.  Accordingly, it is imperative that the financial expert and attorney work together to determine the appropriate approach given the particular facts and circumstances, venue, and the relevant case law. If you are going through a divorce and require an investment account to be traced, please contact your Keiter representative or the Keiter VFS team. We can help.

The information contained within this article is provided for informational purposes only and is current as of the date published. Online readers are advised not to act upon this information without seeking the service of a professional accountant, as this article is not a substitute for obtaining accounting, tax, or financial advice from a professional accountant.

Posted by: Ethan H.R. Hitchcock, CPA/ABV, ASA

Ethan is a manager in Keiter’s Valuation and Forensic Services Group. He performs business valuation services for purposes of mergers and acquisitions; estate, gift, and income taxes; litigation and shareholder disputes; employee stock ownership plans; reorganizations; marital dissolution; business planning; buy/sell agreements; and financial reporting. In addition, he performs litigation consulting services including damages and lost profits calculations. Ethan also performs forensic accounting services, including financial investigations and litigation consulting services. Sources:

[1] Brett R. Turner, “Virginia’s Equitable Distribution Law: Active Appreciation and the Source of Funds Rule,” Washington & Lee Law Review, September 1, 1990, 879.

http://scholarlycommons.law.wlu.edu/wlulr/vol47/iss4/5.