Are Courts Unknowingly Handing Out Inequitable Judgments in the Pursuit of the Equitable Division of Family Property?

The Underlying Legislative Framework

The Family Law Act (the “Act”) sets out a requirement and process for the equalization of net family properties, owned by the respective spouses. This is a process that is intended to generate consistent and equitable division of the property of the partners of the relationship, in the event of the breakdown of the partnership. In order to achieve an equitable (50/50) asset division, the Act indirectly prescribes a valuation process.  

The Act states: 

Divorce, etc.

5 (1) When a divorce is granted or a marriage is declared a nullity, or when the spouses are separated and there is no reasonable prospect that they will resume cohabitation, the spouse whose net family property is the lesser of the two net family properties is entitled to one-half the difference between them.  R.S.O. 1990, c. F.3, s. 5 (1).

Net Family Property is a reference to the "value" of certain property owned by the respective spouses:

“net family property” means the value of all the property, except property described in subsection (2), that a spouse owns on the valuation date, after deducting,

(a) the spouse’s debts and other liabilities, and

(b) the value of property, other than a matrimonial home, that the spouse owned on the date of the marriage, after deducting the spouse’s debts and other liabilities, other than debts or liabilities related directly to the acquisition or significant improvement of a matrimonial home, calculated as of the date of the marriage; 

Direction as to the intended fairness and orderliness of the mandated property valuation, division and money equalization process, is to be found in the "preamble" of the Act which states inter alia that :

"Whereas it is ...necessary to provide in law for the orderly and equitable settlement of the affairs of the spouses upon the breakdown of the partnership... 

Clearly, the legislation intended that the focus should be on consistently achieving a fair equalization result in which both parties are effectively made whole. In the writer’s opinion therefore, in order to achieve an equitable division of assets, the intended valuation and cash payment equalization process must be based upon the underlying premise that the  benefit to one party, of keeping an asset, should be equal to the benefit of the other spouse receiving cash (or a cash credit), in lieu. In other words, post division, both parties should be made whole and their respective share of the pie, should be of equal value.  

What Value Type Does the Act Require?

The Act does not prescribe a specific value type to be utilized in the mandated valuation and equalization process. In fact, the Act does not reference Fair Market Value or any other specific value type, or value definition. The Act only references "value". 

In Fitzpatrick v. Fitzpatrick < (2004), 3 R.F.L. (6th) 325 (Ont. S.C.J.)>, Justice David Aston was called upon to value the husband's minority interest in an insurance agency.  Justice Aston specifically noted the fact that there is no definition of the word "value" in the Family Law Act, and emphasizes the primary need to achieve an equitable result. Justice Aston cited Rawluk v. Rawluk <(1986), 3 R.F.L. (3d) 113> at p. 122, wherein the Court stated:

“While the Act speaks of value, it contains no definition of that term or, indeed, guidelines of any kind to assist in the determination of its meaning...Absent any statutory direction, "value" must then be determined on the peculiar facts and circumstances as they are found and developed on the evidence in each individual case. While this approach does not lead to uniformity and predictability of result, it does recognize the individuality inherent in each marriage and case and permit the flexibility so often necessary to ensure an equitable result.”

In the realm of professional appraisal practice, there are a number of potential value type options available to determine value, of which Fair Market Value is but one of the many available value type options. Each of these value types will generate significantly different value results. The available value type options include (but are not necessarily limited to) the following:

- Book value ;

- Going concern value;

- Liquidation value;      

- Market value;

- Intrinsic value;

- Investment value;

- Fair Market Value;  

- Marketable Cash Value

 

In the writer’s opinion, Marketable Cash Value is the most appropriate value type to be used, as it consistently achieves an equitable division result in which both parities are made whole, and the cumulative asset and cash (in lieu of property) benefits received by both parties, are of equal value. 

Fair Market Value vs. Marketable Cash Value

For illustration purposes, let’s compare the fundamental value difference that arises from the utilization of  “Fair Market Value”, as opposed to using “Marketable Cash Value”, as the selected value type.

The primary difference between these two value types relates to the fact that Marketable Cash Value automatically considers all applicable disposition costs, without regard to the current disposition status of any particular property item.  The demonstrable difference between these two value types is evident by simply examining and considering the different considerations inherent in the respective definitions of each of these two value types:

Fair Market Value - definition

Fair market value is a hypothetical concept implying that neither buyer nor seller has an advantage, and that an ongoing marketplace exists where buyers and sellers interact with frequency and in which research can be conducted to uncover past sales of comparable properties in order to establish proof of worth. In other words, using (for example) a sales comparison approach, the appraiser identifies recent sales of comparable assets and hypothecates that a hypothetical sale of the appraised asset(s) will fetch a similar gross sale realization amount, in a competitive and open market.

Marketable Cash Value - definition 

In comparison, Marketable Cash Value has been defined as “the value realized, net of expenses, by a willing seller, disposing of property in a competitive and open market, to a willing buyer, both with reasonably knowledgeable of all relevant facts, and neither being under constraint to buy or sell”.
 

What’s the difference? … Why Use Marketable Cash Value to Achieve an Equitable Division Result?

As noted, Marketable Cash Value is distinguishable from Fair Market Value in that the Marketable Cash Value definition specifically utilizes the phrase “net of expenses”. As stated earlier, in the writer’s opinion, Marketable Cash Value is the most appropriate value type to be utilized in order to achieve a consistently fair and equitable division result.

The theory behind the need to consistently consider the expenses related to the conclusion of an actual sale in each and every net family equalization undertaking, relates to the fact that one party is going to receive ownership of property and the other party will receive a cash equivalent (or credit), in lieu of post division property ownership. However, in order to achieve an equitable division result, the party who is to receive ownership of the property needs assurance that any costs associated with a future disposition of the property will be considered, even if such value consideration is on a discounted value basis. This is necessary in order to achieve an equitable plateau wherein the party (holding the physical asset) is made “whole”, such that the benefit to one party, of keeping an asset, will be equal to the benefit of the other spouse receiving cash (or a cash credit), in lieu of property ownership.

By utilizing a Marketable Cash Value approach, the parties are effectively considering the value of all of their joint assets on a notional current (non distress) liquidation value basis. Once a determination is made as to the value of all assets net of sale expenses (i.e. disposition costs), the equitable division process is simplified and no longer contentious as all cost contingencies have been appropriately considered (including  appropriate discounts applied ) and the matrimonial asset division balance sheet has been appropriately adjusted.  

Valuation Process Embraced by the Family Law Bar

From the writer’s perspective, the family law bar appears to have gravitated towards value determination for net family property division being via the utilization of a Fair Market Value – value type, with a bit of a twist. That twist is the fact that, in the case of certain assets, and in certain situations, notional disposition costs are considered and adjusted for. In appraisal vernacular, that means that, only in certain cases, a Marketable Cash Value type approach is being utilized.

In the writer’s opinion, the selective and inconsistent utilization of a Marketable Cash Value approach raises a serious risk of facilitating and thereby generating inequitable property division results, as the benefit of keeping the asset does not equal the benefit of the receipt of cash (or cash credit) in lieu of giving up an interest in the physical asset.

Guidance from the Courts? What have the Courts done?

The cases suggest that, as a rule of thumb, not every asset valuation situation requires notional disposition cost adjustments. (In other words, not every case requires the utilization of a Marketable Cash Value approach.) Based upon the writer’s review of the current relevant case law, the guiding considerations as to when future disposition cost should be considered, appear to be a question of whether there is satisfactory evidence of a “more likely than not” future disposition; provided that it is inevitable that the subject disposition costs, would be incurred. The likelihood of disposition and the associated costs cannot be merely speculative. On this basis, disposition costs would be deducted, before arriving at any equalization payment, except in the situation where "it is not clear when, if ever" there will be a realization of the property. < Sengmueller v. Sengmueller (1994), 17 O.R. (3d) 208 (C.A.) >  

In the recent case of Bortnikov v. Rakitova < C60474, 2016 ONCA 427, June 1, 2016> the  trial judge considered the issue of the need to adjust for notional real estate fees (i.e. disposition costs) in the case of a matrimonial home that was part of a motel complex. The trial judge ordered the deduction of an amount equal to 5% of the date of separation value of the matrimonial motel property, based upon the following stated rationale:

“It is clear that sooner or later the respondent will sell the Grand Motel” and “the prospect of a sale [was] sufficiently likely within the foreseeable future”.

At the Appeal Court level <Court of Appeal for Ontario, Number C60474, 2016 ONCA 427, June 1, 2016>, the lower court  decision was reversed, based upon the Court’s review of the developed case law, including a summary statement of the general guiding principles which limit the situations in which disposition costs may be deducted. A summary of the guiding  principles stated by the Court of Appeal are captured in the following illustrative paragraph from the reported case:

 “As a general rule, in determining whether disposition costs should be deducted from an asset’s value, the analysis should take into account evidence of the probable timing of the asset’s disposition. It is appropriate to deduct disposition costs from net family property “if there is satisfactory evidence of a likely disposition date and if it is clear that such costs will be inevitable when the owner disposes of the assets or is deemed to have disposed of them”: Sengmueller v. Sengmueller (1994), 17 O.R. (3d) 208 (C.A.), at pp. 216-17. An allowance for disposition costs from net family property should not be made in the case “where it is not clear when, if ever, a sale or transfer of property will be made”:  McPherson v. McPherson (1988), 63 O.R. (2d) 641 (C.A.), at p. 647.  However, it is not necessary for the court to determine whether the disposition of the assets is inevitable; rather, the court should determine on the basis of the evidence whether it is more likely than not that the assets would be sold, at which point disposition costs would inevitably be incurred: Buttar v. Buttar, 2013 ONCA 517, at para. 20.”

What this writer found interesting was that, in the Sengmueller v. Sengmueller  case, the Judge states that he gleaned from the McPherson case ‘three rules to apply in all cases”.                  

Rule #1 states that we must:

“Apply the overriding principle of fairness, i.e., that costs of disposition as well as benefits, should be shared equally”.

Despite this stated need to share disposition costs (as well as benefits) in order to apply the overriding principles of fairness, the Court rejected the valuation approach utilized by the Court in Heon v. Heon <(H.C.J.), 69 O.R. (2d) 758> which stated that the most appropriate procedure was to value all assets as of valuation day as if there were an actual sale on that day with taxes and other disposition costs deducted. The Sengmueller Judge’s reasoning for rejecting this type of Marketable Cash Value Approach was a suggestion that the application of this type of approach (in which all disposition costs would be considered at the valuation date), would lead to inevitable unfair results.

The further justification/explanation of the Sengmueller Judge’s rejection of this type of Marketable Cash Value approach was based upon the presentation of a hypothetical example that suggests that unfairness would result if all disposition costs were allowed to be applied, whether or not there is no demonstrated intention of disposing of the assets for some substantial period of time. The Court stated:

“The decision in Heon, in my view, points up a different possibility of unfairness. For example, apply the Heon approach of a notional disposition on valuation day, and assume that the parties in the above example were both in their early forties. The wife could deduct the full amount of tax which would have been payable on disposition of her R.R.S.P. and realty as if she had disposed of them on valuation day, resulting in a deduction of tax of approximately $350,000, and real estate commission of approximately $25,000. Her husband would have to pay to her an equalization payment of approximately $37,500 -- a difference of $187,500 from the result applying the approach pressed by counsel for Mrs. Sengmueller. This result would obtain even if she had no intention of disposing of those assets for some substantial period of time.” <emphasis added>

Analysis of he Court’s Rationale From the Personal Property Appraiser’s Perspective

The Court in Sengmueller is obviously bothered by the fact that, by  utilizing the Marketable Cash Value type approach (suggested by the Court in Heon v. Heon), (i.e. by utilizing and applying a Marketable Cash Value type approach) it would create a very different equalization payment result,  which the Court suggests is unfair. The stated unfairness is logically a function of the fact that the wife (in the hypothetical example) is benefiting from disposition deduction, which has not yet been incurred, even if she had no intention of disposing of those assets for some substantial period of time. 

From a valuation perspective, future intentions and/or the inevitability or foreseeability of disposition is irrelevant if you are, in fact, looking to achieve an equitable plateau wherein the party (holding the physical asset) is made “whole”, such that the benefit to one party, of keeping an asset, should be equal to the benefit of the other spouse receiving cash (or a cash credit), in lieu of property ownership. The fact that the wife is given balance sheet credits (or deductions) for, as yet, unrealized disposition costs is not an unfair result, simply because it is a different result. It is simply a result that reflects the current cash value of the appraised asset. In the  writer’s opinion, the process of appropriately discounting any future notional disposition costs, to current (i.e. effective) date values, alleviates any potential unfairness. 

If one party died one day after the effective valuation date of the appraisal, the Marketable Cash Value would be the value achieved by the estate on the liquidation of the estate assets for distribution purposes. Similarly, if two litigating parties decided to liquidate their entire joint family holdings, the day after the termination of their relationship, and leave the country, the net realized proceeds of sale, for each asset sold, would be the asset’s “value” for net property equalization purposes. These (net) achieved values are their Marketable Cash Values.

The Inequities Inherent in this Type of Inconsistent Approach to Notional Disposition Costs

The potential inequities in the current inconsistent valuation protocols is quite evident if you consider the following scenario:

What happens if a party, subsequent to the effective date, has a financially motivated change of heart and decides to sell the property that he/she previously intended to keep? In that case, the other spouse would have received 50% of the anticipated gross sale price and the (property) holding spouse would have absorbed 100% of the sales commission. In the case of the $1,000,000.00 matrimonial home, that would mean a $25,000.00 additional cost burden (based upon a 5% real estate commission rate) due to a late decision. Is that result equitable?

As the reader may well appreciate, spouses may make emotionally driven (and possibly financially questionable) decisions in order to keep the matrimonial home, despite the fact that they may be robbing their future retirement portfolios in order to finance the buy out of their estranged spouse’s interest in the matrimonial home. Is that an equitable result? Let’s assume that the holding spouse decided to hold the matrimonial home short term, for the sole purpose of provide a consistent home environment for the children of the marriage and/or to allow the children to continue their schooling in their familiar neighborhood. Is depriving her/him of his/her future disposition costs an equitable result simply because he/she was not in a position to declare a future date disposition intention, or to initiate an imminent disposition at (or near) the effective date? If the same spouse makes a similar emotional decision to hold on to all (or some) of the couple’s accumulated “stuff” such as antiques, collectibles, antique rugs etc., for similar “consistency” reasons, should that decision be a sufficient reason to grant his/her partner an equalization windfall?   In the case of the matrimonial home example, should the asset holding spouse make a point of considering (and declaring) how long he/she intends to hold on to the matrimonial home, and therefore guarantee receipt of a present value disposition cost credit, based upon the declared future plans?

Further Explanatory Examples of the Need to Consistently Apply a Marketable Cash Value Objective to the Equalization of All Matrimonial Property

Fair Market Value determinations are based upon a consideration of concluded past sale transactions and do not take into consideration any disposition costs, notional or otherwise. There are costs associated with achieving (almost) all sales and generating actual cash in the pocket. Concluded sale data that appraisers rely upon, do not usually include “net realization” figures.

Let’s assume that husband and wife owned a family snowmobile as at the date of marriage breakdown (i.e. the effective date for valuation purposes). The husband (Mr. Black) decides that he will take the snowmobile with him. If the appraiser finds a documented comparable sale  (by one Mr. Brown) of a similar (style, quality and vintage) snowmobile for $10,000.00, that does not mean that Mr. Black will net $10,000.00 on the sale of the family snowmobile.  Mr. Brown (the vendor in the comparable sale) did not decide one day to sell his snowmobile and then shut his eyes, and then miraculously received, in his hands, a certified cheque for $10,000.00. In fact, there were a number of other steps that Mr. Brown would have had to undertake, and costs likely incurred, in order to search out a buyer, negotiate a deal and close the sale transaction.  In other words, comparable sales utilized in the Fair Market Valuation determination process are only reports of concluded sales. The “comparable” sale prices that were considered (and used to establish the fair market value of the asset) do not disclose the underlying costs associated with the attraction and conclusion of the underlying reported sale.

The true equitable value type is Marketable Cash Value which, as noted, is the sale return, net of expenses. If we state on our balance sheet that the snowmobile holding spouse receives an asset worth $10,000.00, we are potentially overstating the net market value of the snowmobile.  

If and when Mr. Black decides to replace his $10,000.00 (FMV) family style snowmobile with a new, and possibly much more expensive, muscle machine, under most sale scenarios, he will not net $10,000 on the sale of his marriage vintage snowmobile. In the case of a trade in, Mr. Black would likely only receive wholesale value.  In the case of a brokered sale of the snowmobile he would be saddled with a sales commission.  In the case of a self- administered sale, he would likely incur advertising and other sale related administrative costs. If the relationship breakdown occurs in the summer months, there will likely be limited demand for the snowmobile and therefore, low or significantly reduced value.

The possible disposition related costs related to non real estate jointly held property could include a number of cost components including (but not necessarily limited to) commissions, advertising costs, administrative costs, carrying costs, storage costs, transportation costs etc. that can be considerable. The associated disposition costs could easily equal 25% of the achievable sale value. (The actual disposition costs are asset dependent.) This consideration should not be limited to real estate, as disposition costs may be properly applicable to the sale of a number of asset types including artwork, vehicles, boats, collectibles and the like.

By way of summary, in the writer’s opinion, costs of disposition must be (at the very least) considered in each and every equitable net family property division purposes. Failure to consider the marketable cash value of a potentially valuable asset may effectively result in an inequitable overstatement of the property’s value. Awareness and a thorough understanding of these underlying personal property valuation principals should be embraced by the mainstream family law sector, as these are very important concepts that must be (at the very least) considered and uniformly applied, in order to avoid the overstatement of an asset’s value.  Sale cost consideration are not however always necessary. (The writer is NOT advocating that this type of analysis should be applied to run of the mill household contents.)

As the Court stated in Sengmueller, Rule  #2, which should be applied in all cases, states that we must :

“Deal with each case on its own facts, considering the nature of the assets involved, evidence as to the probable timing of their disposition, and the probable tax and other costs of disposition at that time, discounted as of valuation day.”

As the Court also noted in Sengmueller: “If assets are transferred in specie or are realized upon to satisfy the equalization payment, the amount of tax and other disposition costs is easily proven, assuming the availability of a preliminary calculation of the equalization payment.” In this type of equalization payment driven asset disposition, disposition costs are routinely applied. Why then should equalization payments made with liquid cash assets, (thereby preserving other assets in specie), generate a different equalization calculation as it relates to, as yet unrealized (remaining) asset disposition costs?

Business Valuations

The readers should note that, in the context of business valuations for the purpose of equalization payment determination, business valuators routinely determine the value of certain businesses, utilizing a capital asset liquidation process. This may occur when there is no discernable resale market for the business. Part and parcel of this process is a consideration of probable tax consequences and other liquidation/disposition costs. The calculation of the actual disposition costs to be applied is dependent upon a determination of; inter alia, the probable timing of the disposition of the subject assets. Once these future disposition costs are determined/quantified, an appropriate discount rate is applied in order to determine the current (i.e. effective date) value of these future contingent tax liabilities and other disposition costs. Of significance is the fact that these considerations of future tax and other disposition costs often occur in situations where:

-  The assets are not being sold in order to fund the equalization payment;

-  There is no inevitable sale of the assets;

-  There is no immediately foreseeable sale of these assets; and

-  There is no declared current or near future intent to sell these assets.

In other words, business valuators, routinely consider notional disposition costs (in the valuation of businesses for matrimonial valuation and property equalization purposes), whether or not there is a near future or imminent intention of disposing of the corporate capital assets for some substantial period of time, or at all. From the writer’s perspective, they are following the valuation methodology that is set out by the Court in Heon v. Heon.   Why is this routine consideration of corporate capital asset disposition/liquidation costs not considered to be an unfair results seeing that there may be no imminent disposition or no declared near future intent to actually dispose of these assets? Assumptions are simply made as to, for example, the future, most probable, date of retirement of the business owner, and the anticipated future disposition costs are simply discounted to effective valuation date day values. This valuation practice/methodology does not seem to raise an eyebrow.

Instructing the Appraiser

Finally, it should be noted that this is not a question of the law practitioner knowing how to net down fair market value in order to achieve marketable cash value. It is simply a matter of the law practitioner properly instructing the appraiser as to what specific value objective is required… i.e. Fair Market Value or Marketable Cash Value?  From the writer’s perspective, it is up to the legal practitioner to interpret the statute and instruct the appraiser as to the value objective (i.e. value type) required for each specific net family property appraisal mandate, so as to facilitate an orderly and equitable net family property equalization result. 

Based upon the current state of the law, it appears that, with minor exceptions, Fair Market Value is the law. The question is whether the current equalization protocol is truly fair and equitable?

From this appraiser’s perspective… it is not.

 

About the author

The Author Lawrence Shale Gold is a non-practicing member of the Ontario Bar. He is a member of the International Society of Appraisers and an Accredited Appraiser Member of the Canadian Association of Personal Property Appraisers.

Lawrence can be reached at (416) 843-9324 or via email at:  Lawrencegoldappraisals@gmail.com