Monthly Archives: January 2009

Buried in DRL 240(1-b) and FCA 413(b)(5) is this often missed clause:

iv) at the discretion of the court, the court may attribute or impute income from, such other resources as may be available to the parent, including, but not limited to: … (A) any depreciation deduction greater than depreciation calculated on a straight-line basis for the purpose of determining business income or investment credits, …

I’ve seen this clause confuse judges and litigants, giving child support orders that are either too high or too low. So what exactly does this mean? In short, it means that some legitimate business deductions permitted by the IRS will not be allowed for determining income for child support.

Let’s take it one step at a time.

Straight Line Depreciation

First, what exactly is depreciation and what is meant by a straight line basis? I’m going to make up some numbers to make it easier to follow. For this example, all expenses are legitimate; there is no hidden income or artificially inflated expenses.

Let’s assume someone is self employed, and has gross revenue of $500,000 per year. Obviously, there are certain expenses associated with running a business, and those expenses should be deducted off the gross income. For example, rent, the cost of goods sold, salaries paid and utilities are all deducted off the gross income to determine profit. For this example, let’s say there are $275,000 in legitimate business expenses and all are valid deductions by the IRS. Other than depreciation, there are no other expenses. That leaves $225,000 in profit so far.

Now let’s assume the business owner purchases a new piece of equipment for $100,000. Since $100,000 was spent as a legitimate business expense, you’d think that it would be acceptable to deduct this expense from the gross income, giving a profit of $125,000.

Nope says the IRS. Even though you paid for this piece of equipment in full, you have to spread out its cost over its useful lifetime. And, the IRS being what it is, has charts saying what the useful lifetime is for every conceivable item. For this example, let’s say the IRS says the lifetime is 10 years.

So, to determine the business deduction, you divide the cost of the equipment ($100,000) by its useful lifetime (10 years) giving you a permitted deduction of $10,000 per year for 10 years. This type of depreciation gives an equal amount for each year, and if you draw a line on a chart for the annual depreciation, you get a straight line. Somebody decided to call this “straight line depreciation” So far so good. So for out example, the $225,000 in profit would be reduced by $10,000, reflecting one year’s worth of straight line depreciation.

Accelerated Depreciation

Now here’s where it starts to get complicated. In 1981, Congress said it would be a good thing to allow business owners a tax break if they bought new equipment. To accomplish this goal, accelerated depreciation was invented, otherwise known as the Accelerated Cost Recovery System, known as ACRS for short. Using hypothetical numbers, ACRS would allow our business owner to obtain more depreciation early on at the expense of less depreciation down the road. For example, ACRS might allow 60% of the cost to be deducted the first four years, 20% of the cost spread out over the next two years, and the remaining 20% spread out equally over the remaining four years. Thus, under ACRS, the depreciation might be 15%-15%-15%-15%-10%-10%-5%-5%-5%-5%.

In 1986, Congress said that ACRS needed to be changed, and modified the depreciation schedule, giving us the Modified Accelerated Cost Recovery System, otherwise known as MACRS. Using hypothetical numbers, the depreciation schedule for our machine was changed to 20% the first year, 20% the second year, 15% for the third, 15% for the fourth year, and 5% for each of the remaining years. Thus under MACRS, the depreciation would be 20%-20%-15%-15%-5%-5%-5%-5%-5%-5%.

Separate from ACRS and MACRS, there is also the Section 179 expenses, which in simple terms, allows a business to deduct 100% of the expenses associated with certain qualified property in the year in which it was purchased. And for those who have made it this far, a Section 179 expense deduction is an exception to the depreciation rule. Remember, our tax code consists of rules, exceptions to the rules, and exceptions to the exceptions.

So turning back to the example, let’s say we are using MACRS, and the equipment is in the second year of service, giving a 20% depreciation deduction. Thus, for tax purposes, the net income is $125,000 less 20% of the cost (20% of $100,000 being $20,000), for a bottom line of $105,000.

But for child support, DRL 240 (1-b)(b) (vi)(A), and its twin companion, FCA 413 (b)(5) (vi)(A) require that any depreciation over the straight line be added back in. The straight line depreciation gives 10% of the total cost, or $10,000. The business properly deducted $20,000 under MACRS. Thus, any amount of depreciation over $10,000 is added back in. As $20,000 – $10,000 = $10,000, the income for child support is properly determined to be $105,000 plus $10,000, or $115,000.

In reality, the IRS has numerous classification of property, ranging from three to twenty years for personal property, and 27.5 & 30 years for buildings.

Examples

Now for two real examples. In one case, I represented the custodial parent, and got the credit for the increased depreciation added back in when the non custodial parent’s income was determined. In another case, I represented the non custodial parent. The judge was about to disallow all depreciation expenses, since they were only “paper losses.” I showed the judge this section of the statute, and preserved the deduction, thereby lowering the child support obligation.

For both cases, I anticipated that the court may not properly apply this section of the statute, and had several hard copies of the section ready to show the court. As a practice tip to any attorney dealing with the self employed, I’d recommend doing the same, highlighting the section helps greatly too.

One final point that’s worth repeating – this section of the child support statute simply disallows a legitimate deduction. There is no artificial manipulation of income or expenses going on.

This is one of my pet peeves. Spend five minutes on google, and you’ll find any number of New York lawyers who claim to “specialize” in any given area of law, including divorces and family law.

The problem is, doing so is an ethical violation of Part 1200 – Rules of Professional Conduct, Rule 7.4 provides that:

[a] lawyer or law firm shall not state that the lawyer or law firm is a specialist or specializes in a particular field of law …

Lawyers can use the term “concentrate” to describe which area of law they dedicate the bulk of their practice to. Lawyer can state which areas their practice is limited to.

But an attorney cannot use the word “specialize.”

A New York lawyer who does hold themselves out to be a family law or divorce specialist either doesn’t care or doesn’t know about the ethical rule’s prohibition on this term. And if they don’t know that basic bit of information, odds are they won’t know other critical aspects of divorce law. Once I even met a self proclaimed divorce specialist who kept talking about how New York divides community property. (Hint #1 – We don’t. New York is an equitable distribution state. Hint #2 – See Hint #1).

Choosing a divorce lawyer is hard enough to begin with, it’s one of the most important decisions anybody will ever make. Avoiding lawyers who don’t know they are violating ethical rules is an easy way to weed out some of the less than desirable choices when finding a divorce lawyer.

We want your liver

 This divorce could be straight out of a Monty Python skit.

  Both Newsday and The New York Post have reported about what can only be one of the most bizarre divorces cases, ever.

Doctor and nurse meet and fall in love, and vow to spend a lifetime together in marital bliss. Unfortunately, the wife had severe health problems, which resulted in both kidneys failing. Following two failed kidney transplants, the doctor donated one of his kidneys in 2001, thereby saving his wife’s life.

Two years later, the wife is claimed to have began an extramarital affair with physical therapist.

The wife filed for a divorce in 2005, with the doctor alleging to have been served with the divorce summons in the operating room.

Four years into the divorce action, the doctor is now demanding the kidney back, or to otherwise treat it as part of the marital estate with it being worth $1.5 million.

Assuming that the wife did cheat after receiving a kidney from her husband, nobody can dispute that was a pretty crummy thing to do. And if she really did have the doctor served with the divorce papers in the operating room, that too was even more crummy. Granted, she must have had one heck of a process server, or perhaps the process server was posing as the patient. Who knows.

So assuming all this is true, the doctor certainly has real reason to feel betrayed.

But to ask for a distributive share of the donated kidney as part of equitable distribution takes this divorce to the land of the surreal poka dot bunny rabbits, otherwise known as the place of going from right to wrong.

Like most stories, I’m sure there is a lot more going on than what is being reported by the press. But whatever those facts might be, there is something seriously wrong with a divorce relying on In Re Monty Python’s The Meaning of Life’s “Live Organ Transplants” as controlling law.

“We’re here for your liver” 

“But I’m not done using it!”