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Is a "Book of Business" of a Professional Person, Established During Marriage, a "Divisible" Community Property Asset?

Q. Having run out of money, I have been representing myself for about two years. The current issue before the court is the petitioner’s motion for alternate date of valuation filed with regard to my territory as a yearbook representative. I asked the court to allow us to present P & As with regard to the issue of ownership. I am arguing that I did not own my territory. They argue that I may not have owned the territory, but I had a “book of business” that had value to the community.

I was doing very well until he dropped the new case, IRMO Finby. That is the issue about which I need some advice. What is your take of the impact of Finby, and does it apply to me? I am interested in having a webcam consult with you.

B.B.


Dear B.B. -

I am honored to weigh-in on your question, although we may have to have further conversation in order for me to have enough information for a more considered opinion. Thanks for reminding me to read and evaluate IRMO Finby, something I've been meaning to do but could not find the time for until I received your inquiry. Before you pay me for a WebCam divorce consult, however, let's see if this helps in developing your Opposition to the other party's arguments.

Marriage of Finby (1/7/14) 222 Cal.App.4th 977 (Fourth Appellate District, Division Three), authored by Justice Rylaarsdam, an Orange County appellate court jurist whose opinions I am always grateful to read, analyzes a question that has never been determined in a reported California appellate decision: Does a "book of business," including customer names and accounts, constitute an asset that must be valued and divided as part of the overall division of community property acquired during the parties' marriage - and are "bonuses" an employer pays for their new employee to bring that book of business over to the new firm community property? Yes, (of course -:) it is!

Congrats to OC attorney Brian G. Saylin, who represented the appellant husband in this case in successfully overturning the trial court judgment of Judge Ronald Kreber in favor of the wife, who argued that her book of business was not a community asset.

As is usually true, the facts of Finby deserve specific review in order to place the rule of law it establishes in context, and in order to identify and distinguish limiting factors that might be useful to those with arguably analogous situations. We can then tick off the legal applicable principles to be applied.


Marriage of Finby - Bonuses Based Upon "Books of Business"

of Professionals Are Community Property

Mark and Rhonda were married in 1995 and separated in February, 2010. During the marriage Rhonda worked as a financial advisor, including for UBS Financial for a number of years as a highly successful and accredited financial advisor. She developed a list of clients which constituted the "book of business" she amassed over the marital years. As of January, 2009 she managed investments exceeding $192,000,000. In January, 2009, Wife was wooed by Wachovia Securities, LLC to serve as a client financial advisor and a managing director of investments. As an inducement for her to move to Wachovia (now Wells Fargo Advisors), Wachovia offered her a written contract containing sweetheart compensation bonuses that were conditioned upon her meeting certain milestone contingencies, and (ironically perhaps) to stay employed with the firm into what would become her post-separation years.

As it turns out, each of these serial bonuses superficially receive different treatment by the Appellate Court, but yet seem to all end up in the same place.

A. The "Transitional Bonus"

The first was a "transitional bonus" for more than $2.8 million which was "based on 150% of [wife's] pre-hire trailing twelve months production ... of $1,868,631.00 ... and pre-hire assets [owned by her investment] clients of $192,671,911." Receipt of the entire amount she was promised was conditioned upon remaining employed by Wells Fargo for 112 months and a gross production threshold of over $1.12 million every year. The bonus payment itself was drafted by Wells Fargo as a loan whereby Wells Fargo would forgive the amount of $27,687 each month over the course of that 112 month period. For tax purposes, Rhonda was to be treated with each payment as income upon her receipt of it. However, if Rhonda ceased working for Wells Fargo then the entire unpaid balance of the "loan" to her would be due to Wells Fargo ("WF"). WF reasonably wanted to ensure that she would remain employed by the company and not retire before they'd recovered the incentive bonuses to her.

She also was given certain production quotas and if she failed to meet them each year, Wells Fargo could reduce the future monthly bonuses. She also would receive a deferred financial recruitment award bonus of $186,863 - but only if she remained in her new employment until January, 2016.

She also became entitled to two conditional production bonuses if she met certain goals. Her first production bonus was for $373,726, so long as she managed to generated $1,494,905 in income to Wells Fargo over the course of the 12 of the first 14 months of her new hire (from 2/09 to 3/10). She met that goal. This was also structured by Wells Fargo as a promissory note executed by her that would be forgiven in installments over 10 years. She was to be given a second even higher production bonus the next 12 months (4/10 to 3/11), but she failed to meet that quota.

The parties separated in 2/10. As the readers of the Enlightened Divorce Blog™ are regularly reminded, the parties' date of physical separation is of paramount importance in California when characterizing assets as belonging to the community estate of both parties, or the separate estate of either. Community property must be equally divided. Separate property must be confirmed and awarded to the party to whom it belongs. The battleground in this case, as with many similar situations, is when a right to receive a bonus or another asset arises, and when the investment of time, skill and efforts that translate into that property (or income) right were invested. See Family Code section 760 and section 770. This linkage between effort and reward is usually critical to whether assets are properly characterized as community or separate property.

B. The "Level 4 Front Bonus"

A further wrinkle was that in mid-2009, WF offered its financial advisors another benefit which it called the "Level 4 Front Bonus". This required its employees to meet with clients, prepare investment profiles, and to maintain an ongoing relationship with these affluent customers. Rhonda won this bonus too, and was paid $890,000 in mid-2010. This was memorialized with the promissory note architecture, whereby WF forgave the monies it paid in equal installments for the number of months over which the payments were made. Rhonda testified at trial that she was only entitled to continue to receive the bonus if she remained employed, which here was intended to mean that if she continued to be employed post-separation, such that her attorneys could argue her bonuses traced to post date of separation time, skill, and efforts - something that belonged solely to her.

A number of experts for Mark and Rhonda testified at trial. These included forensic CPA's and at least one Certified Family Law Specialist. One of Rhonda's experts explained that the transitional bonus was in part paid for the new employee bringing their book of bonus, and on-going clientèle, over to Wells Fargo and in part to ensure that the employee remained with the firm for nine or ten years since "you don't want to pay somebody upfront and then have them go into early retirement once they joined the firm" and received their bonuses. That expert urged that Rhonda would be required to invest new, post-separation, work efforts in order to retain the bonuses and the forgiveness contemplated by the WF promissory note model.

Husband presented "expert testimony" from a Certified Family Law Specialist that in her opinion, all the bonuses were community property. This is kind of odd, because judges are supposed to exclusively determine "ultimate" facts like whether something is or is not CP, but the testimony was apparently allowed without objection from Rhonda's attorneys. Mark also called an attorney expert who'd worked in the securities industry. That witness agreed with the CFLS expert that the "transitional bonus" was a payment for the book of business that Rhonda brought over, which she'd established during the parties' marriage. Husband also called Stephen Zamucen of Zamucen & Curran, LP (a highly competent firm that we sometimes use including our favorite firm member, Will Hansen), who explained that the bonuses Rhonda received were directly related to her marital efforts.

Based upon this evidence, the trial court rejected Mark's contentions and those of his witnesses. It found that Rhonda's book of business had no value. The trial court evidently felt that although Rhonda's high salary with Wells Fargo was related to the investment portfolios she'd accumulated over the marital years, Mark's assistance in helping Rhonda transfer her clients to WF "did not give him an interest in the book of business." What? The trial court further found it had heard not expert testimony from Husband that had valued the book of business itself.

And, the trial court found that a book of business is not a divisible community property asset because it "cannot be transferred to another party for a price", citing Marriage of McTiernan & Dubrow (2005) 133 Cal.App.4th 1090. McTiernan is an outlier case that is limited to its own facts, involving a movie director and producer who successfully argued on appeal that his skills were so unique that no one else could duplicate them, and therefore that no business goodwill could ever attach to his community efforts that was subject to quantification and division as a form of business goodwill. It is the poster-child case for parties (usually but not always husbands) who believe they are so special that it is absurd to value the goodwill of a business they operate or comprise, because - they argue - no asset can be transferred to a fictional buyer of a business that is independent of their own supposedly and sometimes truly unique skills and talents.

Rhonda's attorneys were clever, and apparently hypnotized this family court bench officer. The trial court found that the bonuses earned and received before the parties' separation was thus community property that needed to be divided. But the trial court then applied a straight "time-rule" as the date the remaining bonuses were paid or due to be paid, concluding that such payments were Rhonda's separate property. The trial court further bought into the argument that because wife's retention of the bonuses was subject to her continued employment, and minimum production quotas post-separation, as evidenced by the promissory notes, that those bonuses were therefore

However, as Justice Rylaarsdam's decision demonstrates, outmaneuvering the other party at the trial court level only results in an ultimate win if the other party cannot afford to appeal that decision, which often they cannot. Here Mark evidently could afford it, and the trial court's ruling was reversed and he was awarded the huge costs on appeal that the exercise cost he and his attorneys.

Phew, that's a lot of facts.


Now to the decision and Justice Rylaarsdam's reasoning. The decision is nice in the sense that it succinctly builds out a Community Property 101 analytical framework that lawyers and self-represented parties can utilize as a model for everything from drafting of declarations and Points and Authorities, to drafting the progression of questions one should ask if putting on evidence in a dissolution trial. As to the "goodwill" and "professional practices" aspects of the case that arise from Wife's employment as a licensed money manager for UBS and then Wells Fargo, the impact of valuing a "book of business" may not be as easily generalized to other types of employees who - like you, B.B., for instance - maintain a geographic territory in terms of making that territory a "property right" that can be divided.

How Community Property Analysis Works

Here is basic community property vs. separate property analytical scaffolding:

  • Generally speaking, all property acquired by either spouse during marriage is presumed to be community property per FC section 760. "During marriage" means between the date of the creation of the legal relationship under the Family Law Act (including Registered Domestic Partners) and the date of physical separation ("DOS"). Here, DOS was not disputed.
  • This presumption does not apply to gifts or inheritances received by a spouse during the marriage. It can be rebutted if a separatizing spouse can trace the asset or property to a separate property source. FC section 770.
  • Earnings and accumulations of a spouse while living separate and apart from the other (i.e., after the DOS) is separate property. FC section 771.
  • Under California's community property law, the characterization of property as separate, community, or quasi-community is therefore an integral part of every court's division of property upon divorce.
  • While several characterization factors exists, the most basic is the date of acquisition of the property (i.e., a time rule).
  • Once assets and liabilities are determined to be part of the community estate, they must be valued and divided equally per Family Code section 2550.

But notice the implicit assumption in the foregoing: to be divisible, a 'thing' must be "property" or an interest in "property". Many 'things' cannot be touched, felt or smelled but some may nonetheless be "property" or an "asset" while others may not be. For instance, credit in California is generally not considered to be a divisible asset, and damage to credit caused by the other spouse during marriage generally has no remedy. Social security benefits may be considered a "property" interest, but as a matter of federal law California courts have no jurisdiction to divide it.

Business Goodwill and Fair Market Value

One of the most commonly encountered, and intellectually troubling, assets that may be subject to division is "business goodwill". This is especially problematic in business valuation settings of privately held companies and sole proprietorships where there exists no actual market to buy and sell the business, the value of which often depends upon the unique knowledge and expertise of its owner/operator. There may therefore be no "fair market value" in terms of a possible arm's length transaction; nonetheless, California family law treats the out-spouse as if she (or he) is a silent partner who is the seller, and the in-spouse as though she or he is the buyer. If I had a dollar for every client who has fumed and threatened to walk away from their business before being forced to buy the other spouse out in a divorce proceeding, I'd have a fistful of dollars. The other variation of this theme is "fine, then she can have and run my medical practice and buy me out instead." Of course, "she" is rarely a licensed professional who is legally capable of practicing medicine, so that these business owners are effectively prisoners to the reality that they are stuck within.

As I mentioned, IRMO McTiernan is the case these disgruntled business owner spouses have heard about and always cite and not surprisingly, the Wife in Finby did as well. As a highly successful movie producer and director, Mr. McTiernan successfully convinced the Court of Appeal that his earning capacity and reputation (i.e., "elite professional standing") could not be sold or transferred, or bestowed upon another. Therefore, it had no value. The general consensus among Certified Family Law Specialists is that McTiernan is distinguishable from almost any other form of professional business, and represents an extreme factual situation that just doesn't generalize to anybody. I imagine that McTiernan will increasingly be confined to its facts until one day the holding is reversed entirely, because in some many ways a director's "artistic" talent is not species different from a super lawyer or super doctor except possibly in degree and the law is settled that such professional practices do have goodwill that must be valued and, where that value exceeds the reasonable compensation that the professional earns, it must be factored into the business valuation and so divided as an asset.

While the Finby trial court based its finding that Husband had no interest in Wife's bonuses beyond those received before the separation by citing McTiernan, its decision that Wife's book of business was solely a function of her high status in the securities industry misplaced the essence of her special sauce. It also ignored the fact that Wife was a Certified Financial Planner with a license no different from those attained by lawyers or doctors. At least as to the transitional bonus that she received from Wells Fargo, "the consideration for that bonus was her ability to induce clients with significant assets and potential for producing future commissions and fees to follow her...." Therefore, Justice Rylaarsdam found that the trial court's restriction of the Husband's share of the $2.8 million signing bonus to that portion that was received before separation was an abuse of discretion. "Wife's right to receive the bonus, and the obligation to repay it if she failed to satisfy the attached conditions, arose when she signed the offer summary, received immediate payment of the bonus, and began working for Wells Fargo. Further, the ability to satisfy the requirements entitling her to retain the entire bonus is within her control." However, that does not mean that Husband gets half of $2.8 million on remand; instead, the trial court will now have to determine the "present value" of Wife's interest in the transitional bonus at the time she signed on, and should instead apportion it in some equal and discounted manner as between them. Unfortunately, however, the exact manner of calculation is not discussed in the decision thus leaving it to the trial court to figure something out, which means more forensic expert wars and greater litigation expense for all (please, settle your cases instead!)

However, Husband did not succeed entirely in having the trial court's decision that the remaining bonuses (the first production bonus and the Level 4 Front bonus) belonged solely to Wife overturned. He argued that those too were solely a reward for Wife's book of business, and that they were essentially vested so long as Wife's continuing employment and performance met the employer's conditions. This argument was rejected by Justice Ryslaardam, who concluded that those bonuses - which required that Wife continued working for Wells Fargo until at least 2016 - was a mere "expectancy" because until it vested at year 2016 the Wife had no legal right to enforce it. Nonetheless, the decision goes on to state that upon re-trial the court should apply the same analysis as with the transitional bonus, and "make a determination of the portion of each bonus earned before separation and evaluate the potential wife may fail to satisfy the conditions required to retain the advances received by her." Hence, the decision implies that these other two bonuses may not have CP components, but directs the trial court to figure out if indeed it so finds when applying the correct analysis set forth in the opinion.

Complicated stuff, huh? I am going to come back and comb through this Blog to make it more understandable.


Valuing Professional Practices

Now, as to your situation.

First, Finby follows a long line of cases that have found that professional practices, and associated good-will, are "divisible" community property assets. This is really no surprise, and follows the law of many other states that have considered this question in the context of financial advisors and stock brokers - I mean, come on, these people are often compensated with signing bonuses that depend upon their existing customer lists and monies under management, with the expectation their clients will follow. Yearbook sales customers seem very different from a pool of investors; the quality of the relationship is quite different and does not, for instance, depend upon your special expertise but possibly instead upon your likability. "Likelibility" is exactly the quality that Mr. McTiernan possessed - and if your professional depends upon that too, then you fit this exception. The point of professional practices is that they do depend upon specialized expertise and knowledge, but make the nature of the relationship quite different. Moreover, assuming we are talking a territory instead of an existing repeat clientèle, I am failing to see the relevance of Finby to you.

I would not consider you a professional, because I assume you neither hold nor need any kind of license. I understand you have a clientèle within your geographic territory. One place to look is at your employment contract with your employer, if any. Does it contain a non-compete clause? Does it prohibit you from selling to these same customers if you moved to a different company? Do the customers belong to you or to your employer? Does your company consider you to be an independent contractor?

I've not researched whether there is any case law that applies to pharmaceutical reps for instance, which seems to be an analogous area you should investigate.

Your question also touches date of valuation but DOV presumes you have business to value rather than a mere employment relationship regardless, whether you are considered by the company to be an independent contractor. Whether there is a business to be valued is therefore the threshold question. Maybe you could email me the RFO they filed? Have you hired a forensic accountant of Certified Family Law Specialist as the Husband did in Finby? Possibly having such experts testify that what you do is not a divisible asset would help inform the Court in your favor.

I'll return with some later thoughts tonight, after my upcoming long day at the office doing my day job.

P.S. So, I've returned late on this Thursday evening, and I have this additional thought (if any other reader does too, please comment!) - the fact that your Wife and her attorney admit that you don't own the territory is the key out of this mess. If you don't own the territory, you can't own the customers in it. Think on that a bit (hey, you have be nimble in this business)!

BTW, the doggy picture at top is my new child, Jazzie - who won't ever need partner support - but IF she did, I'd pay it! If she wanted too much, I'd MEDIATE it!

Just saying....

Author: Thurman W. Arnold, III CFLS

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