Divorce for Technology Professionals
Technology professionals may face a number of complicated property issues upon divorce due to unique features of their compensation packages and stockholder agreements. Here is a look at some of these issues:
Stock options (ISOs, NSOs, and RSUs)
The Court has significant discretion in dividing stock options between the employee’s separate property and the community to achieve a fair result. How it divides the options may be highly fact-dependent. One key factor the Court may consider is the purpose for which the company granted the options to the employee (e.g., as deferred compensation for prior service rendered or as an incentive to retain the employee’s future services or both). (See In re Marriage of Hug (1984) 154 Cal.App.3d 780.)
In cases where a company grants stock options before the date of separation but the options vest after the date of separation, the options may be apportioned according to a “time rule” formula. (See In re Marriage of Hug, supra, 154 Cal.App.3d at p. 780.) The inputs that the Court uses in a “time rule” formula to obtain the ratio of separate vs. community property are discretionary and may vary based on the facts.
In Marriage of Hug, the trial court found that a company granted options to an employee-spouse to compensate him for past services rendered rather than as an incentive for the employee’s future work. (See In re Marriage of Hug, supra, 154 Cal.App.3d at p. 782.) There, the court upheld a time rule formula where the numerator was the number of months between the employee spouse’s date of employment and the parties’ date of separation, and the denominator was the number of months between the date of grant and the date of vesting for each tranche of options, multiplied by the number of options. ( In re Marriage of Hug, supra, 154 Cal.App.3d at p. 782.)
However, In Marriage of Nelson, the trial court found that the employee spouse’s stock options were more intended to retain his future services rather than compensate him for past services. (See In re Marriage of Nelson (1986) 177 Cal.App.3d 150, 155.) So, it upheld a different time rule where the numerator was the number of months between the date of grant and the date of separation, and the denominator was the number of months between the grant date and vesting date as the denominator. (See In re Marriage of Nelson (1986) 177 Cal.App.3d 150, 155.)
The facts of each case may warrant fine-tuning the time rule formula used. For instance, in Marriage of Steinberger, where an employee received stock options as part of a severance package that vested after the date of separation, it found it proper to use a time rule including the post-separation years as part of the dominator in its time rule formula, even though the purpose of the options was not to compensation the employee for future “services,” but rather as consideration for agreeing to a non-compete provision as part of a severance agreement. ( In re Marriage of Steinberger(2001) 91 Cal.App.4th 1449, 1460.)
The court may also consider other factors in fashioning an appropriate time rule formula, including the disparate tax treatment of non-qualified vs. qualified options, which is a further factor that the Court may consider in its division formula. ( In re Marriage of Harrison (1986) 179 Cal.App.3d 1216, 1224.)
Founder’s stock
Similar to stock options, if a company grants founders stock before the date of separation that vests after the date of separation, the Court may need to use a time rule to divide the founder’s separate property portion of the shares from the community shares.
Buy/sell agreements
If the company has a buy-sell agreement, it may specify how shares are to be divided by a titled shareholder in the event of a divorce. Common buy-sell provisions may restrict how the employee’s shares are divided upon divorce and may also require either the company and/or the titled shareholder to buy out the non-employee spouse’s interest in the company.
In such cases, an expert valuation of the company’s stock may be necessary.
Valuation of interest in privately held business
If the situation calls for it, the court can award a community asset—such as a business interest—to one spouse and “cash out” the other to achieve an overall equal division of community property. ( See Fam. Code, § 2601.) This approach is within the court’s broad discretion to effectuate an overall equal division of property. (See, e.g., In re Marriage of Cream (1993) 13 Cal.App.4th 81, 88.)
In such cases, an expert business valuation may be needed to assist the court in valuing the community interest. (See Evid. Code, § 801.)
Unless the parties stipulate otherwise, Family Code section 2552 requires the court to value the business interest at fair market value (FMV) on a date closest to trial. (See Fam. Code, § 2552.) FMV is determined as the price a willing buyer would pay a willing seller under no compulsion to act. (See E. Division of Community Estate Upon Dissolution, Legal Separation or Nullity, Cal. Prac. Guide Family L. Ch. 8-E.)
When valuing closely held business interests, courts may use IRS guidelines as stated in Revenue Ruling 59-60 to value the community interest. (See, e.g., In re Marriage of Hewitson (1983) 142 Cal.App.3d 874, 888.)
Under Revenue Ruling 59-60 there is no one-size-fits-all method to value a closely held business. Instead, the valuation may consider multiple factors to determine FMV for the community interest, including, among other things, the company’s:
- Earnings history and financial condition
- Industry-specific economic outlook
- Book value (assets minus liabilities)
- Goodwill and other intangible property
- Recent stock sales
- Whether stocks of similar companies are actively traded and what those market prices are. (See Rev. Rul. 59-60.)
Expert valuation approaches may include an income approach like discounted cash flow or capitalization of earnings, the market approach, or the asset approach. Determining which approach is appropriate may be highly fact-dependent.
Effectively presenting business valuation evidence to the court (which can be dense and jargon-heavy) is essential.
Intellectual property
Professionals may also have intellectual property (IP). IP is considered “personal property” that may be valued and divided by the court. (See Civ. Code, § 663.) For technology professionals, IP to be divided by the Court commonly includes copyrights, patents, trademarks, and trade secrets. However, it may also involve goodwill and even name, image, and likeness rights (NIL).
The court may need an expert to assist it in valuing the IP assets, which can be complicated.
Retirement accounts
Defined contribution plans like 401(k)s and defined benefit plans (pensions) may need to be specially divided by what’s called a qualified domestic relations order (QDRO). For other types of defined contribution plans like IRAs, a QDRO may not be necessary.
