The Starting Point: Guideline Income

The Federal Child Support Guidelines establish a framework for calculating child support based on the payor's annual income.

Generally, income begins with the amount reported on Line 15000 of the individual's income tax return. However, the Guidelines recognize that taxable income does not always represent a person's true economic income.

Sections 17, 18, and 19 of the Guidelines are particularly relevant when dealing with business owners and complex financial structures.

Section 18: Shareholders, Directors, and Officers of Corporations

One of the most important provisions affecting business owners is Section 18.

The section permits the court to consider all or part of a corporation's pre-tax income where the parent is a shareholder, director, or officer and where the reported personal income does not fairly reflect the money available to that individual.

This issue frequently arises in owner-managed private companies.

A business owner may choose to:

• Retain earnings within a corporation;
  
• Receive compensation through dividends rather than salary;
  
• Leave excess cash in the company;
  
• Accumulate investment assets within a holding company;
  
• Structure compensation for tax efficiency.

While these strategies may be entirely appropriate from a tax and business planning perspective, the court's focus is different. The question becomes whether corporate earnings represent resources that are effectively available to the parent for child support purposes.

A CBV may ask examine:

• Corporate financial statements;
  
• Retained earnings balances;
  
• Historical compensation patterns;
  
• Working capital requirements;
  
• Capital expenditure needs;
  
• Debt obligations;
  
• Tax and bank information;
• Future business requirements;
• Other relevant information. 

The objective is often to distinguish between legitimate business needs and earnings that could reasonably be distributed to the shareholder.

Retained Earnings: Not All Corporate Income Is Available

One of the most common misconceptions is that all retained earnings should automatically be added to a shareholder's income.

Courts generally recognize that businesses require capital to operate and grow. Retained earnings may be necessary to:

• Fund inventory;
  
• Support accounts receivable;
  
• Finance equipment purchases;
  
• Meet lender covenants;
  
• Manage seasonal fluctuations;
  
• Address business risk.

A careful financial analysis is often required to determine whether retained earnings are truly available for distribution. This analysis frequently involves understanding the economics of the business rather than simply reviewing tax returns.

Holding Companies and Complex Corporate Structures

Many entrepreneurs and professionals operate through structures involving:

• Operating companies;
  
• Holding companies;
  
• Family trusts;
  
• Investment corporations;
  
• Multiple related entities.

These structures are often established for legitimate tax, succession, asset protection, or investment reasons. From a child support perspective, however, they can create challenges when assessing the true resources available to a parent.

Questions that commonly arise include:

• Are funds being retained in a holding company?
  
• Are investments generating income that is not reflected in personal tax returns?
  
• Are intercompany transactions affecting reported income?
  
• Are corporate assets providing personal benefits?

Understanding these arrangements often requires a detailed review of financial statements, tax filings, shareholder structures, and cash flows across multiple entities.

Section 19: Imputing Income

Section 19 allows courts to impute income where reported income does not fairly reflect a parent's earning capacity or financial circumstances.

Examples may include situations where an individual:

• Is intentionally under-employed;
  
• Receives non-taxable benefits;
  
• Diverts income;
  
• Unreasonably deducts business expenses;
  
• Fails to provide complete financial disclosure.

For business owners, disputes frequently arise regarding discretionary expenses claimed through a corporation.

Examples might include:

• Personal vehicle expenses;
  
• Travel expenses;
  
• Entertainment costs;
  
• Home office expenses;
  
• Family members on payroll;
  
• Other shareholder and tax-related benefits.

The issue is not necessarily whether the expense is deductible for tax purposes. Rather, the question is whether the expense should be considered available income for child support purposes.

The answer often requires a detailed review of accounting records and supporting documentation.

Cash Flow Versus Taxable Income

A recurring theme in child support matters involving business owners is the distinction between taxable income and economic income. Tax planning often seeks to minimize taxable income. The Federal Child Support Guidelines seek to determine a parent's ability to contribute to the financial support of their children. These objectives are not always aligned.

As a result, courts may consider:

• Corporate earnings;
  
• Shareholder benefits;
  
• Retained earnings;
  
• Non-recurring expenses;
  
• Personal expenses paid through corporations;
  
• Other economic resources.

 A CBV's analysis can assist in identifying and quantifying these adjustments.

Disclosure Is Critical

Many child support disputes involving private corporations stem from incomplete financial disclosure.

In addition to personal tax returns, relevant documents may include (but not be limited to) the following:

• Corporate tax returns;
  
• Financial statements;
  
• General ledgers;
  
• Shareholder loan accounts;
  
• Bank records;
  
• Trust documents;
  
• Corporate organizational charts;
  
• Source documents to support revenue and expenses;
  
• Other relevant information.

Early and comprehensive disclosure often reduces both cost and conflict by allowing the parties and their advisors to properly assess income.

The Role of the Chartered Business Valuator

Although CBVs are widely known for business valuations, their expertise extends well beyond valuation assignments.

In family law matters involving business owners, a CBV may assist counsel by:

• Determining guideline income;
  
• Analyzing corporate earnings and retained earnings;
  
• Assessing shareholder benefits;
  
• Reviewing complex corporate structures;
  
• Evaluating business expenses;
  
• Preparing expert reports;
  
• Assisting at mediation;
• Providing expert testimony.

The goal is not simply to maximize or minimize income, but rather to arrive at a fair and supportable independent determination of the resources available to a parent under the Federal Child Support Guidelines.


Final Thoughts

The Federal Child Support Guidelines recognize that guideline income assessment is not always straightforward. For business owners and individuals with complex financial structures, reported taxable income may tell only part of the story.

Whether acting for the payor, recipient, legal counsel, or other advisors, a thorough and independent financial analysis can help ensure that child support is based on an accurate understanding of the parent's true economic resources.

When corporate structures, retained earnings, shareholder benefits, or discretionary expenses become significant issues, the involvement of a CBV can often provide the independent & objective financial analysis necessary to assist both the parties and the court in reaching a fair result. An independent guideline income assessment report is an expert report by a CBV is governed by the CBV Institute's Professional Practice Standards - practice standard 310 specifically.

--

Please contact Steve Skrlac, MBA, CFA, CBV for a professional valuation if you are in the divorce process. 

Our office is in Burlington and we serve clients in Toronto (GTA), Oakville, Burlington and Hamilton.

Federal Child Support Guidelines: What Business Owners, Lawyers, & Advisors Need to Know

When child support is being determined, many people assume the process is straightforward: find the payor's income on Line 15000 of their tax return, apply the Federal Child Support Guidelines ("FCSG"), and calculate the monthly support obligation.

 For employees with relatively simple financial affairs, that approach often works.

For business owners, shareholders of private corporations, professionals operating through corporations, and individuals with complex corporate structures, however, determining income for child support purposes can become significantly more complicated. In these situations, the Federal Child Support Guidelines provide courts with broad discretion to look beyond reported taxable income and determine an amount that more accurately reflects the resources available to a parent.

This is often where a Chartered Business Valuator (CBV) can assist counsel and the court.

Copyright ©  Keystone Business Advisors Inc. All rights reserved.
Chartered Business Valuators serving the GTA including Toronto, Mississauga, Oakville, Burlington, Hamilton & southern Ontario.

Please contact us for a free consultation:

Visit our Blog