Much like with a complicated medical condition, a financially-complex divorce is more apt to need an additional specialist. The most common financial expert brought into such a case is a forensic accountant.
Although the title conjures up the image of a detective spying in the bushes to find hidden money, the reality is forensic accountants use the information provided by the parties to create a financial snapshot. They aren’t private investigators doing asset searches in the dark; they work from financial statements, tax returns, and other books and records provided to them. They may find assets that were not disclosed as part of their analysis and review of these statements. But for the most part, forensics are used to establish values of assets and income streams.
And while their work can be very valuable to a case, it can be difficult to decide if it’s necessary to involve a forensic accountant and to assess whether the additional costs of involving a forensic accountant will actually result in a better settlement.
A Little Perspective
In the Los Angeles area, the average cost of hiring a forensic accountant for a divorce starts at around $30,000, so careful consideration needs to be taken. In some cases, these specialists just drain more of the couple’s assets and create more conflict and a larger family divide. However, certain circumstances make these professionals worth every dime your client pays them.
The first thing to understand is that the divorce attorney chooses and hire the specialists that are brought into the case, but it is the client who will pay for their services.
The attorney will select and hire the professionals they feel confident will be the best to advocate for their case. These additional parties will also fall under the attorney-client privilege protections for any conversations that may take place between the attorney, the client and the professional. However, your client, always has the ability to say no, so it’s very important that they understand the benefit of adding a forensic accountant to their case, if there truly is one.
What Does a Forensic Accountant Do?
The most common way a forensic accountant is used in a case is to complete the following reports and calculations that an attorney is not qualified to do:
Establishing the value of a business that is owned by one or both spouses. A Business Valuation Report will determine the number that will be used for the asset division so it’s important to get it right if the business truly has value. This number will be relevant for a widget factory or a business with saleable assets. However, the value of a service business, such as a doctor’s practice or law firm, will likely be tied to its ongoing income stream and not its balance-sheet value. In addition, if the employed spouse is vital to the success of the business, they may argue that without them the business has no value and therefore a valuation based on a sale value, for example, would be irrelevant. Therefore, the value of this business valuation report is highly dependent on the type of business that is being evaluated.
Tracing the movement of funds between accounts. Tracing calculations can be important if there is a lot of money that has been moved around from account to account and it’s not clear what the real community value is of each account. It is also helpful to determine different income sources if one or both spouse’s money is not earned and reported on a W2 or 1099.
Separate property claims. Forensics have the expertise to verify separate property claims on assets such as a home that was purchased prior to marriage or an investment or retirement account that was established prior to marriage but has been contributed to during the marriage. Separate property claim calculations are often a very important part of the negotiation in a community property state such as California if there are assets that can be defined in whole or in part as one spouse’s separate property and therefore not part of the asset division in the divorce.
Valuation of more complex assets. These calculations provide an analysis of pension plans, stock options, restricted stock, and other deferred compensation and executive compensation plans. These types of plans have become more popular in recent years and can be difficult to value due to vesting schedules and tax ramifications.
Calculation of income available for child and spousal support. The Income Available for Support Report can be very important if the payor of support is a business owner or has several streams of income. Most business owners file taxes with a goal of showing the least amount of income possible. A forensic accountant will examine the underlying accounting statements to add back personal expenses run through a business as well as other “expenses” that are created for tax purposes.
I have seen many cases where there is a very large difference between the income reported to the IRS and the number the forensic accountant determines is the total income that should be used to determine a support order. This particular calculation has the potential to make a significant financial difference in a case, especially when a business owner is involved. However, if both parties are W2 employees, this report is likely not necessary.
Marital Standard of Living Calculation (MSOL). This determines what the income and expenses were during the marriage and it’s primarily done to determine child and spousal support. It is only truly relevant if the income stream is substantial and significantly exceeds the usual expenses. In many cases I see, couples are living at their means with little or no extra money for savings. If this is the case, the MSOL calculation) will have little relevance because child and spousal support will be based on the income, not what is spent.
However, if a divorcing couple spent significant money on vacations and other luxury items, the MSOL Report (which provides the detailed calculation of the marital standard of living) can be important in creating a support order that seeks to maintain that marital standard even post-divorce. It’s also an important determinant of child support because the court seeks to create a similar standard of living for children moving between two households. There shouldn’t be a huge disparity, with one party taking the children to Tahiti while the other party can’t afford to put food on the table.
It is important, however, to ensure the MSOL Report makes sense in the context of the case. For spouses nearing retirement in particular, it may have no value. My client’s attorney recommended she pay about $20,000 for this report although her spouse was due to retire in less than a year. The MSOL would become irrelevant very quickly because he was 67 and, in the court’s eyes, fully entitled to stop working. Therefore, he could establish a very different standard of living, which could sharply reduce the marital standard of living and spousal support.
Empower Your Client
Clearly, the use of a forensic accountant in a divorce proceeding is a very complex decision based on several factors. Don’t be afraid to ask your client to speak up and ask their attorney why this professional is needed. Make sure it isn’t just part of their standard process.
Keep in mind too that the size of the marital estate isn’t what dictates whether a forensic accountant is necessary. According to media reports, Angelina Jolie’s divorce attorney, Laura Wasser, advised her not to use a forensic accountant to determine child support from Brad Pitt as it would be “extremely time-consuming and would only complicate things further.”
The decision to use a forensic accountant must be made in context of the overall divorce negotiation. Not only can it be penny wise (looking to count every dime) and pound foolish (spending thousands to count the dimes), but often the process just increases the anger and conflict between the parties.
It’s your job as an advisor to help remind your client that the attorneys and other professionals will quickly move on to the next case once theirs is over, but the two spouses, especially if they are parents, will need to continue to work together in some capacity.
I’ve seen the collateral damage to a prolonged dispute not only deplete assets but also cause irreparable damage to the entire family. If a forensic accountant is necessary, then it will be money well spent. Just make sure you are helping your client focus on the long-term goal and bigger picture.
Kathy Costas, a vice president, investment advisor and Certified Divorce Financial Analyst (CDFA) at EP Wealth Advisors in Westlake Village, Calif., specializes in working with men and women going through a divorce. She was appointed by the Institute for Divorce Financial Analysts as the chair of the Southern California chapter of the Divorce Alliance, a group for divorce professionals. Kathy is also the leader of the Conejo Divorce Resources Professionals group. She can be reached at email@example.com or 424-323-3852.