Litigation + Valuation Perspectives

Demystifying Valuation, Economic Damages + Forensic Accounting

Income Determination in Divorce: What Documents Does the Forensic Accountant Review?

Male hand pushing a wedding ring over to a female hand about to sign divorce papers. Conceptual of divorce or marriage.

In marital dissolutions it is not unusual for the court or one of the parties to ask that an analysis of the income of the opposing party be analyzed by a forensic accountant. The findings will be helpful to the court in setting spousal maintenance and/or child support payments.

In order to do their analysis, forensic accountants will often review the following documents: a) bank statements; b) tax returns; c) affidavit of financial information; d) credit card statements; e) investment account statements; and, f) applications for credit. Let us assume for purposes of describing how each of these documents may be used by the forensic accountant (FA) that we are dealing with the income of Husband. Let us also assume that the marital community owns an interest in a business for which Husband is the operator.

Bank Statements

If the marital community owns a business, the forensic accountant will review bank statements to determine what deposits have been made to the business’s bank account(s) for a period of time such as the last year, the last two years, or longer. Non-business related deposits such as transfers from other bank accounts not related to the business or from loans are eliminated from the analysis. The resulting deposits are then compared to the amount of revenues reported on the tax returns of the business for each of the years’ bank statements examined. The deposits will also be compared to the revenues reported in the business’s internal financial statements.

Tax Returns

If the business interest owned by the marital community is from a business organized as a “pass-through” entity such as a limited liability company, partnership or S-Corporation, the forensic accountant will make note of the amount of net income allocated to the owners of the business in the tax returns’ K-1 schedules. Even though cash equal to the allocated net income is not distributed to the owners, the court may find that the undistributed earnings may still qualify as income to the marital community.

Tax returns of the business are also reviewed by the forensic accountant to note whether there have been any sales of property or investments of the business resulting in major cash proceeds.

Affidavit of Financial Information

The Affidavit of Financial Information (AFI) is generally required by the court as an initial indicator of the income available to the Petitioner and Respondent. The Forensic Accountant will review the expenditures reported by Husband. The FA will then calculate what the gross income would have to be in order to meet the expenditures being reported on the AFI. This gross income amount is then compared to the net earnings received by Husband. Significant differences are investigated further.

Credit Card Statements

The FA will review the credit card statements of the business to determine whether non-business expenses are being run through the business and reported as business expenses.

Investment Account Statements

The FA will review the statements relating to investments of the marital community to determine whether there are any disposals of investment assets which were not reported to Wife.

Applications for Credit

The FA will review applications for credit prepared by Husband for such purposes as business loans, automobile purchases, or residence purchases to see what the total income of Husband is being reported to the lending organization.

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The preceding documents are not inclusive of all the procedures used by forensic accountants when determining the income of one of the parties. The documents reviewed, however, are significant to their analysis.

Don Bays, CPA, ABV, CVA, CFF