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Episode 31 Transcript: Self-Employment + Spousal Income in Divorce

Today, we are going to be talking about how to understand the earnings of your spouse if your spouse is self-employed and owns his or her own business.

When you are going through a divorce process and your spouse is self-employed, you have some added challenges in understanding his or her income, and I guess I should say that income is really only significant if child support or spousal support/spousal maintenance/alimony is relevant in your case. If it’s not, if you don’t have kids, and if you both earn roughly the same amount and there’s no alimony between you, understanding your spouse’s income is not very relevant. But, if it is relevant for you, I want to share two tips.

First of all, there is a difference between two types of earnings that a spouse can potentially have from his or her business. So, one is the more traditional type of earnings, in the form of a salary, that your spouse would receive a W-2 for from his or her business. And the other types of earnings are more just the profits of the business, so the revenues of the business. If your spouse is a consultant, and he or she generates $100,000 a year in revenue from various clients, those are the gross revenues of your spouse’s business. And then, of course, your spouse is going to have some legitimate business expenses, some expenses that he or she has to incur in order to run their business, without which the business wouldn’t run. When you reduce a business’s gross revenues by its legitimate business expenses, you come up (hopefully) with some business profit. Maybe business losses, but if it’s a business that’s been sustained for a long time, hopefully business profit.

People are often confused about how a spouse’s salary relates to his or her business profit. So, if your spouse has more of an informal business and hasn’t formally been established as a corporation or a limited liability company, they don’t file a separate tax return for it. They just would have Schedule C as part of your personal tax return, and it’s unlikely that your spouse would have a salary from their business. They likely will only have the profits of their business.

In that case, the important thing for you to understand is, number one, how are they coming up with the gross revenue number that they’re coming up with. Are they paid entirely digitally, and it’s really easy to track? Are they paid in cash? So, figuring out a reasonable revenue number for their business.

Then, you really want to understand, very importantly, what expenses they are reducing that revenue by to come up with their profit. Because, for many business owners, there’s a lot of leeway in what they claim for tax purposes is a business expense for them. And so your spouse can be reducing his or her gross revenues of the business by expenses that, for instance, are eating out expenses with friends or the cost of a car that’s really used for personal benefit. And so, you want to understand in that context what are the legitimate business expenses and then, in figuring out what the true profit of the business is or what your spouse’s true income is, you only want to be reducing their gross revenue by legitimate business expenses.

So, if this is something complicated, the take-home is you want to connect with a CPA on this. You want to have an accountant assist you, and it doesn’t have to be an expensive exercise in reviewing tax returns, either corporate tax returns or the Schedule C, related to your spouse’s business. That that person can flag for you, “Okay, this is what I’m seeing here, and I think your spouse has X amount of income.”

The thing you do want to be careful of is, if your spouse has their own business and they pay themselves a salary, to not only look at their salary as all of their earnings. There likely are and should be profits from their business that should also be included in assessing their earnings. And bear in mind that a business owner has a lot of discretion in terms of the salary that they pay themselves, so the fact that your spouse, for instance, pays themselves a salary of $50,000 does not mean that that is all that they are earning or capable of earning from their business.

So, really the take-home is if you have a spouse who owns their own business and there’s any confusion at all around their income, you want to connect with an accountant who can help you look at your tax returns and the corporate tax returns to better understand what your spouse’s true earnings are.

 

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