Separate Property Asset Tracing in Divorce

Debunking Myths and Getting the Numbers Right

The author discusses various methods used to trace property; techniques that are used in connection with marital dissolutions.

[su_pullquote align=”right”]Resources:

The Good, Bad, and Wealthy—Top Five Financial Issues in High Net–Worth Divorces

Analyzing Personal Goodwill in Matrimonial and Estate Valuations

How to Discover and Prove the Existence of Hidden and Overseas Assets and Income

Breaking Up is Hard to Do: Dividing the Marital Estate and Figuring Alimony

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“You can see the Great Wall of China from space.”

“You need to wait at least 30 minutes after you eat before you can safely swim.”

“Shaving your hair will make it grow back more quickly.”

“If you swallow gum, it will stay in your stomach for seven years.”

“If you cross your eyes too long, they will stay that way.”

“If you get divorced, your spouse gets half of your assets (and you get half of his or hers).”

Most of us have probably heard and maybe even believed one, if not all, of the statements above at some point in our lives.  I know I have (and I know my summer camp teachers did—they made us sit at the edge of the pool and just stare at the water for half an hour after lunch when we took field trips to the YMCA).

Until I began getting involved in financial expert and valuation work after graduating from college, I always thought that spouses divided their assets evenly between them if they divorced.  In fact, given the popularity of Kanye West’s early 2000s hit, “Gold Digger”, I would wager that most people you run into believe that if your spouse leaves you, he or she is going to “leave with half.”  As those involved in assisting spouses through the divorce process know, however, Kanye would have been more accurate had he said your ex-spouse would “leave with half…if no separate property tracing analysis was performed.”

Why is Separate Property Tracing Relevant in Family Law?

When a couple gets divorced, their assets are typically divided between them.  That division of property, however, may not necessarily be equal.  Under Ohio law, the assets of each spouse may be classified as either “marital” property (divided evenly between the couple) or “separate” property (retained by the owner spouse) depending on how the assets were obtained and maintained during the marriage.  Generally, marital and separate property can be viewed as follows:

• Marital Property—Assets obtained during the marriage with marital funds (funds earned by the labor of the spouses during the marriage).
• Separate Property—Assets obtained prior to the marriage or received by gift or inheritance during the marriage. In addition, income and appreciation derived from separate property are typically considered separate assets if the investment is passive (i.e., the spouse is not an active participant in creating the income or appreciation).

The party asserting that it owns separate property has the burden of proof to prove that claim.  If successful, the asserting spouse typically retains the separate asset(s) in question without any corresponding division with the other spouse (which would otherwise be necessary if it could not be proven that the assets were “separate” rather than “marital”).  As a result, it is possible that a spouse who owns separate property may be allocated more than 50% of the couples’ total assets—it is simply a function whether the asserting party is able to prove that particular assets are, in fact, separate property.

How is Separate Property Tracing Performed?

A common thread in all tracing analyses is the need for documentation to support the separate property claim.  This is often the biggest hurdle in separate property tracing analyses, particularly those that go back more than a few years.  A general rule of thumb is the longer the marriage, the more documentation that will be needed to support the separate property claim, simply as a function of the longer time period that must be analyzed.

Each separate property tracing analysis is unique based on the assets of the couple, the length of the marriage, the length of time the assets have been owned, and other factors.  The following, however, are examples of common tracing scenarios that are encountered in practice:

• Cash/Investments in a Separate Account—This is a “plain vanilla” separate property tracing scenario in which the separate assets owned at the time of marriage, or received by gift/inheritance during the marriage, are kept in a separate account (i.e., not commingled in an account that contains marital funds). In an ideal scenario, the spouse making the separate property claim will have complete bank account or investment statements from the date of marriage (or the date that the separate property was received, if later) through the current date.  This allows for a clean trail documenting that the balance in the account(s) as of the current date can be traced back to the separate assets existing as of the date of marriage (or the date that the separate property was received).  If marital funds were not contributed to the account(s), both the original separate property balance and any passive earnings or appreciation of those assets would also be considered separate property that would typically not be subject to division with the other spouse.
• Cash/Investments in a Commingled Account—Separate property tracing becomes more complex when separate assets and marital assets are commingled in the same account. A common example of this is a 401(k) account that was in place prior to the date of marriage.  The balance in the account as of the date of marriage would be considered a separate asset, but any contributions during the marriage would typically be considered marital in nature.  As a result, it becomes necessary to calculate the separate and marital portions of the 401(k) account at regular intervals over the course of the marriage so that any appreciation or depreciation can be appropriately apportioned between the marital and separate components.  Again, in an ideal scenario, the spouse making the separate property claim will have investment statements for the 401(k) account from the date of marriage through the current date.
• Passive Business Ownership Interests—Another separate property scenario involves a spouse holding an ownership interest in a privately held company in which he or she is not an employee or actively involved in its operation. This situation has similarities to tracing cash or marketable securities held in a separate account in the sense that the value of the asset at the time of marriage, as well as any appreciation during the marriage, typically remains the separate property of the owner spouse.  In an ideal scenario, the ownership interest in place at the time of marriage (or obtained during the marriage via inheritance or gift) can be documented and traced through to the current ownership interest held.
• Active Business Ownership Interests—An ownership interest in a privately held company in which the spouse is an employee or active owner creates another wrinkle that must be navigated in the separate property tracing analysis. In that case, any appreciation in value occurring between the date of marriage (or the date of receipt of inheritance or gift) and the current date may be considered a marital asset subject to division between the spouses.  As a result, valuations of the company in question are typically necessary as of both the date of marriage (or the date the ownership interest was received) and the current date so that the appreciation between the two dates can be measured.  Consequently, tracing engagements involving an active business ownership interest are typically more time consuming and document intensive analyses.

Each separate property tracing analysis is unique and may include pieces of each of the scenarios described above in addition to others that are specific to the facts and circumstances of the engagement.  As with most financial analyses, the more information that is available, the greater the likelihood of success in proving the existence of separate property.

Conclusion

Common misconceptions contain enough hints of truth to make them believable.  Given that spouses often equally split assets in divorces in which separate property is not present, it lends credibility to the simplifying assumption that this 50/50 split occurs all the time.  When separate property is present, however, which is not uncommon for couples with family wealth, separate property tracing is often necessary in order to preserve a spouse’s right to assets that are not subject to division with the future former spouse.

This article, previously published August, 2017, is reprinted here with permission from the Cleveland Metropolitan Bar Journal.

Sean Saari is a partner at Skoda Minotti and manages the firm’s Valuation & Litigation Advisory Services group. He assists a diverse client base in valuations for litigated matters, domestic disputes, shareholder disputes, estate and gift tax planning, financial reporting and strategic planning. In addition to being a CPA, Mr. Saari is Accredited in Business Valuation (ABV) and is a Certified Valuation Analyst (CVA). He became a CMBA member in 2015.

Mr. Saari can be contacted at (440) 449-6800 or by e-mail to ssaari@skodaminotti.com.