During divorce proceedings, each spouse’s separate property is confirmed to belong to them and them alone. Property that is determined to be community property is divided evenly between the spouses.
What about property that is both separate and community? For example, a business owned before the marriage, that has increased in value since the marriage.
When this happens, the community is entitled to share in the increased value of the business. This means the court is charged with determining the value of the business and how much of the value is separate property and how much is community property. The separate property value is not divided, while the community property value is divided evenly between the spouses.
The courts in Nevada (and most Western states) use two different methods for valuing how much of the business is community property, which is then divided evenly. The two methods – The Pereira formula and the Van Camap formula – derive from California case law and provide guidelines on how to value a business during divorce.
The Pereira Formula
One method of apportionment the courts use widely is known as the Pereira formula. It derives from the California case, Pereira v. Pereira, 156 Cal. 1 (1909). The Pereira formula is commonly used when the increase in value of the separate property business was primarily the result of a spouse’s labor and not a result of outside market forces.
With Pereira the court will determine the value of the business at the time the marriage started. Then, the court will calculate a reasonable rate of return to that value and allocate that as the spouse’s separate property. Anything above that figure will then be considered community property.
The most common types of businesses that are assessed using the Pereira Formula include:
- Small retail owners
- Lawyers
- Dentists
- Doctors
- Accountants.
These types of businesses usually grow because of the work of the professional and not because of outside trends or market forces.
In most cases, Pereira is directly applicable to professional services in which the owner has a direct influence on income generation and the business operations in general. It is a preferred method when the owner’s efforts were the significant reason the business has grown.
The Van Camp Formula
When the increased value of a separate property is primarily due to outside market forces and not the sweat equity provided by a spouse, the court will often apply the Van Camp formula, derives from the California case, Van Camp v. Van Camp, 53 Cal. App. 17 (1921).
Van Camp is usually used with a larger business that grew because of something other than a spouse’s labor. A business that grows because of a market trend, or utilizes new technology, or invests in research or development of a product have grown because of market forces and not the spouse’s labor.
The most common types of businesses likely to apply the Van Camp formula include:
- Service real estate holdings
- Manufacturing
- Technology
- Software
- Internet operations
For Van Camp, the court will calculate and attach a fair salary the spouse should have received while working for the business. The yearly salary is multiplied by the years married. This amount represents the community property from the business. The community household is entitled to this full amount. If the community household has not received this amount over the marriage, then they are owed it. The remaining value of the business is separate property.
Which is Better: Periera or Van Camp?
Determining which valuation method is best will usually depend on what you are looking for in a settlement. Generally speaking, the Pereira method for valuation is of greater benefit to the community side of the equation, whereas Van Camp offers greater benefit to the owner of the separate property. The decision as to which method to use will depend on the influence of the non-owning spouse in the development and growth of the business. Pereira is used primarily when the appreciation of the business’ value is directly related to the amount of effort and skill shown by its owner/operator. Pereira assumes that appreciation during the marriage is allocable to the community only if it exceeds a reasonable rate of return.
On the other hand, Van Camp is used most often when the appreciation of the business’ value is primarily attributable to attributes built into the business when it was established. Under Van Camp, because “reasonable compensation” is given to the community, the community efforts in the operation can often be diminished. That is why it is absolutely necessary that a critical analysis of the entire business operation is conducted. In some cases, such an analysis is the best way to determine which valuation method is best for the current situation.
The court is free to choose whichever approach the judge feels is most appropriate. The court can even look at both approaches before making a final decision. In Nevada, for example, the courts prefer the Periera method over the Van Camp method, if the facts make it a close call to decide which formula to choose.
In order to apply either method during your divorce, it is necessary to establish the property as a separate property. It is ultimately the burden of the person claiming the asset to be separate property to prove that it is.
The best way to do that is to establish the date when the asset was started up, purchased or obtained. Once you have established a separate property ownership interest in the business, it is possible to determine the initial value of the business, as well as the value of the appreciation of the business.
