Jensen v. Jensen – Are Retained Business Earnings Marital Property?

The Court of Appeals of Michigan recently addressed whether a business’s retained earnings should be included in a marital estate, if the business is one of the spouse’s separate property. In this issue of first impression in the state, the appellate court declined to adopt a bright-line rule. Instead, it found that trial courts should make this determination on a case-by-case basis.

Competing Valuations

In Jensen, the husband had significant premarital assets, including a commercial truck customizing business. Each spouse presented expert testimony at trial on the business’s value.

Both experts used the income approach, calculating the company’s earnings before interest, tax, depreciation, and amortization (EBITDA) margin. They arrived at comparable values at the beginning of the marriage ($2.29 million by the wife’s expert and $2.46 million by the husband’s expert).

However, there was a substantial difference in their opinions of value at the time of separation. The wife’s expert valued the business at $4.33 million. And the husband’s expert valued it at $2.86 million.

The trial court found the value set forth by the husband’s expert to be more credible, noting that it “involved seeing the site, interviewing the owner of the business, [and] understanding the business in more detail.” The appellate court upheld that conclusion.

Treatment of Retained Earnings

On appeal, the wife’s attorney argued that the trial court should have awarded her a portion of the company’s retained earnings generated during marriage, at least to the extent that the company’s value hadn’t increased by an amount that was equal to or greater than those retained earnings. However, under Michigan law, the treatment of earnings retained by a separately owned business wasn’t clear.

The appellate court ruled that retained earnings are generally presumed to be separate property, unless the nonowner spouse demonstrates that some or all of those earnings should be included in the marital estate. Factors to consider include:

• The owner-spouse’s authority to distribute earnings,
• The business’s historical operations and need for operating capital,
• Whether the owner-spouse was reasonably compensated, and
• Whether the owner-spouse deliberately caused the business to retain earnings “to deprive the marital unit of income.”

Based on a review of these factors, the appellate court found that it wasn’t improper for the trial court to treat retained earnings as separate property in this case.

Lessons Learned

Legal precedent related to business valuations and the use of expert witnesses in divorce tends to vary from state to state. It’s important to review emerging trends in other states, especially if you encounter a case that involves a financial issue that hasn’t been addressed by courts in your jurisdiction.