June / July 2020 : Division of Pensions – Court of Appeals Upholds Equal Division of Two Pensions Having Different Features. Reed v Reed App No. 346520 (2/13/20) (Unpublished)

View / Download June-July 2020 Article – PDF File

Tax Trends and Developments Column – Michigan Family Law Journal


Facts

  • H and W both had pensions to divide after a nineteen year marriage.
  • W had a Michigan county pension and H a Michigan public school pension.
  • A CPA testified that there were two basic differences in the pensions:
    1. H’s school pension included an automatic COLA provision (MIP) by which it would increase by 3% a year. W’s county pension had no such provision.
    2. Also, H’s school pension allowed an alternate payee to access his/her share before the participant retired.
      W’s county pension, however, did not allow alternate payee access until the participant actually retired.
  • H, 45 years old, could retire at age 48 and intended to do so. He was free to seek other employment after retiring. W, also 45, had to wait until age 60 to retire.
  • The CPA proposed a partial offset method to adjust for the differences in the two pensions.
  • The trial court ruled that “the most equitable method for division” was to award each party a 50% interest in the other’s pension.
  • H appealed, claiming in part that when he retired at age 48, he could not live on half of his pension.
  • He also claimed that his ability to work after retiring would be relevant only if the court were determining an award for spousal support.

Court of Appeals Ruling

  • The Court upheld the lower court’s decision.
  • Essentially, the Court ruled that both pensions, with their respective features, were marital assets and that dividing them equally was appropriate.
  • The Court also noted that earnings ability is relevant to property distribution as well as to spousal support.

Comments on the Case

  • Since H stated no reason (e.g., health) why he could not work after retiring at age 48, his claim was not very persuasive.
  • Determining the present values of the two pensions would not likely have provided a workable solution in this case. Reason – H’s pension would probably have been far more valuable than W’s pension – making an offset not feasible because:
    1. It was payable from age 48 for life vs. W’s being payable from age 60 for life.
    2. The twelve extra years were earlier, more valuable years in the present value calculation.
    3. H’s pension increased each year whereas W’s did not.
  • Though not an issue in the Reed case, whenever dealing with a Michigan public school pension, one needs to be mindful of recoupment.
    Recoupment occurs if (1) the alternate payee begins drawing his/her share before the participant (1) is age 60 and (2) retires, and (2) the participant works beyond normal retirement age of 60. The resulting reduction of the participant’s bene.t is drastic.
    A way to prevent recoupment is to provide that the alternate payee cannot begin drawing before the participant reaches age 60.

About the Author

Joe Cunningham has over 25 years of experience specializing in financial and tax aspects of divorce, including business valuation, valuing and dividing retirement benefits, and developing settlement proposals. He has lectured extensively for ICLE, the Family Law Section, and the MACPA. Joe is also the author of numerous journal articles and chapters in family law treatises. His office is in Troy, though his practice is statewide.

Download the PDF file below… “Division of Pensions – Court of Appeals Upholds Equal Division of Two Pensions Having Different Features. Reed v Reed App No. 346520 (2/13/20) (Unpublished)”
View / Download June-July 2020 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)

Jan 2020 : State of Michigan Tax Exemptions for Divorce Related Transfers of Real Property

View / Download January 2020 Article – PDF File

Tax Trends and Developments Column – Michigan Family Law Journal


General

For most Michigan transfers of ownership of real property, there are two tax adverse consequences:

  1. The Michigan Real Estate Transfer Tax imposes a tax of $3.75 for every $500 of value transferred. Additionally, the county transfer tax rate is $.55 for every $500 of value transferred.
    .
    So, the total transfer tax on $50,000 of property transferred is $2,150.
  2. Transfers of Ownership result in the “uncapping” of the taxable value of the transferred property.
    .
    This can be significant since the annual increase in taxable value for property tax purposes is otherwise limited by law to 5% or the rate of inflation, whichever is lower.
    .
    So, for property held for several years which has appreciated significantly in value, a transfer will likely result in a substantial increase its taxable value for property tax purposes.

Exemptions Applicable to Divorce Related Transfers

The following are exemptions that avoid both (1) imposition of a transfer tax and (2) the uncapping of taxable value.

  1. Transfers pursuant to a judgment provided no money is ordered by the court to be paid as consideration for the transfer are exempt. MCL 207.526(l); MCL 211.27a(7)(h)
  2. Transfers between spouses creating or disjoining a tenancy by the entireties are also exempt. MCL 207.526(j); MCL 211.27a(7)

Observations

  1. Apparently, a divorce related transfer occurring after divorce–when the parties are no longer spouses–for which money consideration is paid–does not fall within either exemption.
    .
    In such an instance, no consideration should be specifically provided for the transfer.
  2. And, if relying on the “pursuant to judgment” exemption, it seems advisable to provide for the transfer in the divorce judgment instead of, or in addition to, the property settlement agreement.

About the Author

Joe Cunningham has over 25 years of experience specializing in financial and tax aspects of divorce, including business valuation, valuing and dividing retirement benefits, and developing settlement proposals. He has lectured extensively for ICLE, the Family Law Section, and the MACPA. Joe is also the author of numerous journal articles and chapters in family law treatises. His office is in Troy, though his practice is statewide.

Download the PDF file below… “State of Michigan Tax Exemptions for Divorce Related Transfers of Real Property”
View / Download January 2020 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)

Aug / Sept 2019 : Bankruptcy Exemption May Not Apply To Retirement Benefits Received In Divorce – Lerbakken v Sieloff & Associates, PA, NO. 18-6018 (8th Cir. 2018)

View / Download Aug-Sept 2019 Article – PDF File

Tax Trends and Developments Column – Michigan Family Law Journal


Background

  • In his 2014 divorce settlement, Mr. Lerbakken (Mr. L) received half of his wife’s 401(k) account and 100% of her IRA.
  • He subsequently filed for bankruptcy protection. One of his creditors was Sieloff & Associates. The firm that handled Mr. L’s divorce and remained unpaid.
  • Mr. L claimed that the 401(k) account and the IRA received in the divorce were exempt from claims of creditors as retirement assets under 11 U.S.C. Section 522(d)(12).
  • The bankruptcy court disallowed Mr. L’s claimed exemption for the 401(k) and the IRA.
  • Mr. L. appealed to the 8th Circuit Court.

8th Circuit Court Ruling

  • The 8th Circuit Court (Court) upheld the lower court’s disallowance of the exemption.
  • The Court referred to a 2014 U.S. Supreme Court ruling that an inherited IRA did not qualify as a retirement asset qualifying for the bankruptcy exemption. Clark v Rameker, 134 SCt 2242 (2014).
  • In so ruling, the United States Supreme Court indicated that retirement funds for purposes of the bankruptcy exemption meant funds set aside to be available when one stopped working and, hence, did not apply to an inherited IRA.
  • The Court ruled that a retirement asset received as part of a property settlement does not qualify for the exemption either.
  • The Court was not swayed by Mr. L’s claim that his wife’s 401(k) and IRA were accumulated specifically for their joint retirement.
  • It was also noted that Mr. L had not rolled the assigned funds into his own retirement account. He could not even produce a QDRO indicating that he had accessed his as-signed share of the 401(k).

Comments on the Case

  • The Court seemed to narrowly construe the statute since, as Mr. L asserted, the funds in question were in fact set aside for his and his former wife’s retirement.
  • The division of the parties’ retirement assets is frequently done with the objective of providing each party with sufficient financial security for retirement years.
  • Where bankruptcy is a possibility, to lessen the chances of what happened to Mr. L, retirement funds received in a divorce should be accessed promptly and rolled into one’s own retirement account.
  • QDRO preparation and processing should be attended to forthwith after a divorce.

About the Author

Joe Cunningham has over 25 years of experience specializing in financial and tax aspects of divorce, including business valuation, valuing and dividing retirement benefits, and developing settlement proposals. He has lectured extensively for ICLE, the Family Law Section, and the MACPA. Joe is also the author of numerous journal articles and chapters in family law treatises. His office is in Troy, though his practice is statewide.

Download the PDF file below… “Bankruptcy Exemption May Not Apply To Retirement Benefits Received In Divorce – Lerbakken v Sieloff & Associates, PA, NO. 18-6018 (8th Cir. 2018)”
View / Download Aug-Sept 2019 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)

May 2019 : Food for Thought on Treatment of Appreciation in Value of a “Separate” Business During Marriage

View / Download May 2019 Article – PDF File

Tax Trends and Developments Column – Michigan Family Law Journal


Background

This article considers the treatment of appreciation in value during marriage of a business enterprise that was owned by one party at the time of marriage.

Many seem to consider appreciation during marriage of value of a “separate” business as either 100% active – thereby marital – or 100% passive – thereby separate (assuming no commingling, etc.).

This “either/or” characterization seems overbroad and generally based on little or no analysis of the factors driving the increase in value. It is also out of sync with the equitable nature of divorce and the corresponding objective of address-ing the unique circumstances of each case as they are versus a “one size fits all” basis.

In previously writing on this issue, I presented an example similar to the following;

  • A and B own identical rental property management companies – with one exception – which they operate as LLCs.
  • The exception – A manages his company and draws a $50,000 salary. B has always used a full-time manager who is paid $50,000 a year by the company. B works at a machine shop earning $50,000 annually.
  • At the time of A’s and B’s respective marriages, their companies were each worth $100,000; and, at the time of their divorces each was valued at $250,000. The growth of both is attributable to (1) pay down of debt, (2) inflation, and (3) increase in market values exceeding inflation.
  • Both companies have always been owned separately by A and B, respectively. Company income was always de-posited in their separate accounts from which funds were drawn solely to pay taxes on company income.
  • Though A and B had essentially the same earnings, business values, and appreciation during the marriage, arbitrary application of “either/or” active/passive characterization results in the $150,000 appreciation treated as marital in A’s divorce but separate in B’s divorce.

Why this anomalous result? Because 100% of the appreciation of A’s company is attributed to her activity as the rental property manager notwithstanding that she brings no particular “value-adding” skills to the job. As noted, the appreciation in value is due to other factors, which are “passive” (except arguably income used to pay down debt).

This example does not address whether the income from the separate property is separate or marital or, correspondingly, as noted, whether the reduction of debt by use of such income is separate or marital. Rather, the purpose is to illustrate the fiction that, if the owner is actively involved, 100% of the appreciation in value is attributable to his/her efforts and thereby marital.

Michigan Case Law on the Issue

The following discussion focuses on pertinent decisions of Michigan Court of Appeals (Court) regarding the subject issue.

Hanaway, 208 Mich App 278 (1995)

The principal issue regarding the family business (Company) was whether Ms. Hanaway (W) contributed to its “acquisition, improvement, or accumulation.” The trial court ruled that she had not, apparently focusing on “direct” contribution. The Court ruled, essentially, that W, did in fact, contribute by tending to the household and the parties’ four children thereby enabling Mr. Hanaway (H), “the company president,” to devote “himself to the business, working long work weeks.” This case established the principle that “contribution” could be indirect as well as direct in the family partnership.

The Court stated that although H received the business as a gift from his father, “… the increased value of that interest necessarily reflected defendant’s investment of time and effort in maintaining and increasing the business, an investment that was facilitated by plaintiff’s long-term commitment to remain home to run the household and care for the children.”

The Court ruled that the appreciation was marital.

Observations
  • The Court made no attempt to identify factors for the increase in value other than H’s intensive efforts as the Company’s CEO who worked long hours in this capacity.
  • Also, the apparent demanding role served diligently by W – which was front and center as the prime issue of the case – likely had some effect on the ruling on appreciation in value.

Reeves, 206 Mich. App. 490 (1997)

In this case, Mr. Reeves (H) owned a minority interest in a shopping center before his marriage to Ms. Reeves (W). H also owned a condominium that he and W lived in and two rental properties that he purchased in both parties’ names while they co-habited before marriage.

The Court ruled that appreciation in value of the shopping center was separate because H’s interest was “wholly passive.” In so ruling, the Court noted – “[i]t cannot be stated, as was done in Hanaway, supra at 294, that the property appreciated because of defendant’s efforts, facilitated by plaintiff’s activities at home.”

Observations
  • In Reeves, the Court did not need to parse reasons for the increase in value because H had no involvement whatsoever. All appreciation was obviously due to passive factors.
  • The Court’s use of the term “wholly passive” described H’s relationship to the shopping center investment which supported its ruling.
  • Thus, because H had no involvement whatsoever in the asset at issue, this case sheds no light on a situation where there may be some involvement by the owner, however minimal.
  • The Court included as marital the appreciation during marriage of the value of the jointly owned rental properties.

Dart, 460 Mich. 573 (1999)

The principal issue in this Michigan Supreme Court case was jurisdiction involving enforceability of an English judgment.

The Court also addressed a claim by W that she was entitled to share in the appreciation in value during marriage of a large family company, Dart Container Corporation (Dart), at which H was employed. H also had a beneficial interest in a trust to which substantial gifts of Dart stock had been made. The English court had rejected W’s claim.

The Court noted that it was possible “that plaintiff might have shown a nexus between defendant’s work at the company and the underlying trust assets.” … “However, we conclude that the possibility of prevailing was remote.”

The Court also noted that, apparently under general separate property principles, “[t]he trust income from the Dart Container Corporation was never marital property.”

Observations
  • Though the Court did not need to decide whether H’s active involvement at Dart was sufficient to include appreciation during marriage, the fact that it stated that there needs to be a “nexus” between the two is significant. Though not an express statement to this effect, it indicates that it may take more than active involvement to result in active appreciation.
  • The Court’s statement regarding trust income from Dart is noteworthy since there is little definitive law on the status of separate property income that is not commingled.

Uygur, Mich. App. No. 258207 (6/8/2006)

H was an executive at Giffels, a large company. He owned Giffels stock before his marriage to W. The Court ruled that, despite H’s active, high level involvement, appreciation in value during the marriage of his pre-marital Giffels stock was passive, hence, his separate property.

In supporting its decision, the Court stated:

“The value of defendant’s stock rose and fell based on the net worth of Giffels. The success of the company, and thus its stock value, rested on all of the company’s employees, of which defendant was only one. Because defendant worked for the company, his performance necessarily affected the company’s success to some degree. However, we cannot conclude that defendant’s employment caused the stock values to appreciate. Because the defendant’s ability to affect the company’s stock value was limited, the nexus between defendant’s employment and the company’s success was necessarily attenuated.” (Emphasis added.)

Observations
  • The Court ruled that the appreciation was passive notwithstanding that H actively worked at the Company at a high level and, further, that his work “necessarily affected the company’s success to some degree.”
  • Also, the Court indicated that there must be a nexus between the owner’s activity and the success – that is, increase in value – of the company.
  • Thus, according to this court, simply being actively involved does not automatically result in “active” appreciation.
  • This case is significant for the acknowledgement that factors other than the owner spouse’s active involvement may be responsible for increase in value.

Henderson, Mich. App. No. 295765 (6/9/11).

H was actively involved on a day-to-day basis in a management capacity at a family company founded by his father.
In this regard the Court stated:

“Plaintiff worked a regular schedule and maintained an office at the company. He oversaw multiple departments and performed necessary functions.”

H’s counsel relied on Uygur in support of his claim that the appreciation was passive. The Court did not consider Uygur, in large part, apparently, because it is an unpublished opinion.

The Court noted that, unlike with the shopping center in Reeves, H’s position at the company was not “wholly passive at all times.” And, further, that he “was not merely one of several employees at BNP. As co-CEO, the record demonstrates that plaintiff bore responsibility for many of the company’s major functions.”

Thus, the Court reversed the trial court decision saying that the “trial court clearly erred in finding that the appreciation was passive and could not be classified as marital property.” The case was remanded for further proceedings.

Observations
  • This appears to be an excellent case for allocating increase in value to various factors, one of which is H’s active involvement. The Court did not expressly rule that all of the appreciation was marital.
  • The Court’s reference to “wholly passive” from Reeves is unfortunate since it is not at all clear that the court in Reeves intended anything more by that phrase than to describe the undisputed lack of any involvement of Mr. Reeves in the shopping center.

About the Author

Joe Cunningham has over 25 years of experience specializing in financial and tax aspects of divorce, including business valuation, valuing and dividing retirement benefits, and developing settlement proposals. He has lectured extensively for ICLE, the Family Law Section, and the MACPA. Joe is also the author of numerous journal articles and chapters in family law treatises. His office is in Troy, though his practice is statewide.

Download the PDF file below… “Food for Thought on Treatment of Appreciation in Value of a “Separate” Business During Marriage”
View / Download May 2019 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)

April 2019 : IRC Section 529 Plans Expanded to Include K through 12 Public, Private, and Religious School Tuition

View / Download April 2019 Article – PDF File

Tax Trends and Developments Column – Michigan Family Law Journal


Section 529 Plans – Prior to 2017 Tax Cuts and Jobs Act Changes (Tax Reform Act)

Internal Revenue Code Section 529 allows states to establish a tax-advantaged savings program that permits a person to contribute to an account for a designated beneficiary’s qualified higher education expenses (QHEE).

Distributions from such accounts – including earnings – are not taxable provided such distributions do not exceed the
beneficiary’s QHEE.

QHEEs include tuition, fees, books, supplies, and equipment – including technology equipment – required for attendance at a qualified institution of higher education (as defined in the 1998 Amendment to the Higher Education Act of 1965 – generally, any public college or university).

Distributions for QHEE are limited to $10,000 per beneficiary annually. If there is more than one Section 529 account for a beneficiary – e.g., one maintained by each set of grandparents – the $10,000 limit applies to distributions from all accounts on a combined basis.

Funds in a Section 529 account can be rolled into another Section 529 account for another beneficiary. So, if an account’s
funds exceed a beneficiary’s QHEE at time of graduation, the excess funds can be transferred to another beneficiary.

Grandparents, as well as parents, often use Section 529 plans to fund future educational expenses of loved ones.

Tax Reform Act Changes to Section 529 Plans

Under the Tax Reform Act, effective in 2018, tuition – and only tuition – for kindergarten through high school qualifies for the tax benefits under Section 529.

Further, this expansion applies to public, private, and religious school tuition for K through 12.

The definition of qualified expenses remains broader for post-secondary education.

Michigan Education Savings Program

Michigan has established the Michigan Education Savings Program (MESP) – a Section 529 program. Some features of the MESP:

  1. Investment Options – The MESP offers many investment options for differently aged beneficiaries. The investment risk level options include Aggressive, Moderate, and Conservative.
  2. Tax Benefits – A person filing as single can deduct up to $5,000 in MESP contributions annually for Michigan income tax purposes. The limit is $10,000 for a couple filing a joint Michigan income tax return.
  3. So, at Michigan’s 4.25% tax rate, every $1,000 of contributions saves $42.50 in Michigan taxes.
  4. Of course, the primary tax saving is the exclusion from federal income tax of the earnings in the account.
  5. Fees – There are no enrollment or account maintenance fees. There is a modest program management fee and a fee on underlying investments.
  6. Not Restricted to Michigan Educational Institutions – Distributions for QHEE can be for an educational institution
    outside Michigan

Relevance to Divorce

Provision for educational expenses – particularly K-12 private school and post-secondary education – is often an objective in divorce settlements. Use of Section 529 may offer a tax-advantaged way of doing so – particularly now for K-12 private school tuition.


Private or Religious Grade & High School Example:

  • Dad agrees to pay a child’s private school tuition of $10,000 annually.
  • Using a 529 plan to do so saves $425 of Michigan tax each year.
  • And, any earnings in the account are tax free if all used for qualified education expenses.

For public college and university expenses, it is advantageous to start when children are young and, hence, the savings horizon is long enough to establish significant funds for education.

College Example:

  • Contributing $250 a month for a 5 year-old child, invested at 2%, will result in over $44,000 at the child’s age 18.
  • The $8,000 earnings will be free of federal and state income tax if used for qualified education expenses.
  • And, the Michigan tax savings total $1,530 over the 13 years.

About the Author

Joe Cunningham has over 25 years of experience specializing in financial and tax aspects of divorce, including business valuation, valuing and dividing retirement benefits, and developing settlement proposals. He has lectured extensively for ICLE, the Family Law Section, and the MACPA. Joe is also the author of numerous journal articles and chapters in family law treatises. His office is in Troy, though his practice is statewide.

Download the PDF file below… “IRC Section 529 Plans Expanded to Include K through 12 Public, Private, and Religious School Tuition”
View / Download April 2019 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)