Valuation & Division of Accounting & CPA Firms in Tennessee Divorce
Valuation & Division of Accounting & CPA Firms in Tennessee Divorce
Spouses of Accountants Divorcing Needs Expert Witness to Value & Divide Firms and Practices and Goodwill Issues
An accounting practice is often considered marital property when two parties divorce, which makes its value subject to division between the two parties. When determining whether to split the value of an accounting practice, Tennessee courts will examine a number of factors including the duration of the marriage, the income of each spouse, the financial needs of each spouse, and the employability of each spouse. Once the court determines whether the value of the accounting practice will be split between the spouses, it places a value on the practice. This article discusses the methods that Tennessee courts use to value accounting practices in divorce cases.
Mr. Enoch was a certified public accountant. Enoch v. Enoch, 1987 WL 12042 (Tenn. Ct. App. 1987). He owned one-third of the interest in an accounting firm that he purchased during the course of his marriage for $83,000. When Mr. Enoch and his wife divorced, they agreed that the firm was marital property and that it was purchased with the purpose of increasing Mr. Enoch’s income. However, the parties did not agree on the valuation of the accounting firm. Mr. Enoch valued the firm at $70,000, which included the physical assets and accounts receivable. His wife valued the firm at $105,000, which included the purchase price and the interest paid.
The trial court valued Mr. Enoch’s share of the accounting firm at $23,333. Even though Mr. Enoch’s valuation was much higher, the trial court held that most of the sum of the $83,000 originally paid for the accounting firm was for the firm’s good will. Good will cannot be included in the valuation of any professional practice in Tennessee, so the $23,333 value reflected physical assets and accounts receivable, less the indebtedness of the firm. Mr. Enoch’s wife appealed the valuation. The Tennessee Court of Appeals affirmed the trial court’s valuation of the firm at $23,333. Noting that good will should be distinguished from future earning capacity, the Court of Appeals held that it would be inequitable to force a professional practitioner to pay a spouse for an intangible asset that cannot be liquidated.
Mr. Wallace was a certified public accountant, and his wife was a bookkeeper. Wallace v. Wallace, 1998 WL 717229 (Tenn. Ct. App. 1998). When Mr. Wallace married his wife, he began to do tax work for the clients of his wife’s bookkeeping business. The accounting and bookkeeping business grew during the course of the marriage, and Mr. Wallace became the primary source of professional services for the business. A few years before the parties divorced, Mr. Wallace purchased another accounting firm’s assets and client list for $100,000. Just before the divorce, Mr. Wallace filed a financing statement that valued the accounting firm at $260,000. When the parties divorced, Mr. Wallace valued the firm at $104,900, which included the firm’s personal property and accounts receivable. Mr. Wallace’s wife valued the firm between $310,000 and $350,000.
The trial court held that the accounting firm was a marital asset and valued the firm at $140,000. The Court of Appeals affirmed the trial court’s award. Mr. Wallace argued that the $140,000 award included the good will of the firm. The Court of Appeals determined that while good will should not be included in the valuation of a practice, it was not included in the trial court’s award. Rather, the $140,000 sum reflected two factors. The first factor included in the amount was the tangible assets of the firm at $105,000, which included personal property and accounts receivable. The $140,000 sum also accounted for evidence that was shown in the trial that an accounting firm could sell for the amount of its gross receipts for one year. Mr. Wallace’s accounting firm was averaging around $250,000 in annual gross receipts. Therefore, the $140,000 valuation affirmed by the Court of Appeals was a combination of both the current tangible assets of the firm and the potential resale value of the firm.
Mr. Hoffman was a certified public accountant and worked as a senior partner and manager for an accounting firm. Hoffman v. Hoffman, 1998 WL 205707 (Tenn. Ct. App. 1998). Over the 27 years Mr. Wallace was married, he and his wife, who was a homemaker, accumulated a substantial amount of wealth. When the parties divorced, Mr. Wallace’s wife subpoenaed his accounting firm to produce a number of documents related to the valuation of the firm. The trial court denied her request for internal financial statements, client lists, and client productivity reports. However, the trial court allowed her request for documentation specifically related to the husband’s interest in the firm under the partnership agreement. At trial, Mr. Hoffman claimed his equity in the accounting firm was worth $359,500. In contrast, Mr. Hoffman’s wife claimed his equity was worth $388,000. Looking to the partnership’s cash, fixed assets, accounts receivable, and works in progress, the trial court valued the Mr. Hoffman’s interest in the accounting firm at $359,500. As partial compensation for the value of the accounting firm, Mr. Hoffman’s wife was awarded a lump sum of $150,000 in addition to an alimony award of $2,000 per month and a child support award of $3,000 per month. Both parties appealed the award.
The Tennessee Court of Appeals affirmed the trial court’s valuation of Mr. Hoffman’s interest in the accounting firm. The Court of Appeals also affirmed the trial court’s decision to exclude documents related to the accounting firm’s internal financial statements, client lists, and client productivity reports. Mrs. Hoffman argued that her inability to examine these internal documents led to an incorrect valuation of the firm. The Court of Appeals noted that a subpoena may be denied if it would “impose an undue burden and substantial expense, if most of the materials sought could be obtained elsewhere, or if the materials sought are not sufficiently relevant to the proceedings to justify the burden and expense.” Here, the non-internal documents produced by Mr. Hoffman were sufficient to ensure an accurate and fair valuation.
No set formula exists to determine how an accounting practice will be valued in a Tennessee divorce case. Instead, Tennessee courts use a number of judicial standards when attempting to place a numerical value on a practice. To prove the value of a firm, an accountant’s spouse may present documents related to the accountant’s personal fiscal interest in the firm. However, the spouse cannot present documents that are used primarily for confidential, internal business purposes. An accountant’s personal goodwill is not included in its valuation. The practice’s physical assets, accounts receivable, the accountant’s future earning capacity, and the potential resale value of the firm have all been held relevant to the valuation of Tennessee accounting practices.
Read more about Memphis divorce attorney Miles Mason, Sr. JD, CPA. He practices family law exclusively with the Miles Mason Family Law Group, PLC in Memphis, Tennessee. He has taught seminars across the nation on divorce trial practice, professional practice valuation, and forensic accounting to judges, lawyers, CPAs, and business appraisal expert witnesses. Miles authored The Forensic Accounting Deskbook, published by the American Bar Association Family Law Section, which addressed many aspects of valuing and investigating businesses in divorce including professional practices. For more information, see When Professionals Divorce in Tennessee: Valuing Professional Practices.