You can use section 18(1) of the child support guidelines to reduce the guideline income for self employed persons to a fraction of their tax return line 150 income.In our recent case success, our client’s tax return income was almost $600,000 but the court attributed a fair wage to him under section 18(1)(b) of $200,000. This approach reflects the reality that a self employed person’s tax return income should be viewed with a critical eye by his counsel. A failure to view the tax return income with scepticism will result in your client paying way too much in spousal and child support.
We just used this innovative argument successfully on behalf of our client. Here is an extract from our winning argument.
Section 18(1)(a) and (b) of the Federal Child Support Guidelines provide that:
S.18(1) Where a spouse is a shareholder, director or officer of a corporation and the court is of the opinion that the amount of the spouse’s annual income as determined under section 16 does not fairly reflect all the money available to the spouse for the payment of child support, the court may consider the situations described in section 17 and determine the spouse’s annual income to include:
— all or part of the pre-tax income of the corporation, and of any corporation that is related to that corporation, for the most recent taxation year; or– an amount commensurate with the services that the spouse provides to the corporation, provided that the amount does not exceed the corporation’s pre-tax income.There is nothing contained within these provisions of the Guidelines that indicate that Section 18 cannot be used to reduce the “line 150″ amount.
If the purpose of the Guidelines is ultimately to arrive at an income that is fair and accurate in all the circumstances, a narrow interpretation restricting the application of Section 18 of the Guidelines only in limited circumstances where more income can be imputed to the payor spouse than appears on line 150 would be inconsistent with the legislative scheme. Fair” must mean that the amount available for child support is fair as between the payor parent and the recipient child. If the amount of income declared in the tax return at line 150 truly does not reflect the amount of income available to the payor spouse for the payment of child support, the court should be able to consider how much income is actually available so that it might order an amount that is both fair and realistic.
A review of the provisions of the Guidelines demonstrates that they are generally designed to allow courts to arrive at an amount of child support that would be appropriate in all the circumstances. In Francis v. Baker (cited below), the Supreme Court of Canada favoured a broad interpretation of the legislation in considering the application of Section 4 of the Guidelines.
The case law reveals an emerging presumption that a corporation’s pre-tax income will be assumed to be available to the shareholder payor for the payment of child support unless compelling evidence is led by the payor spouse to support the conclusion that re-investment is necessary to sustain the company as a viable enterprise.
Summary of Relevant Case Law:
In Kowalewich v. Kowalewich [2001] B.C.J. No. 1406 (BCCA), the Court of Appeal rejected the proposition that that the court should look only at the value of the owner parent’s personal services to the company. Rather, Huddart J. accepted that under s.18 of the guidelines there are two methods to determine income: the corporate income method (s.18(1)(a)), and the value of personal services method (s. 18(1)(b)). In reaching her determination that the proper in that case was the corporate income method, Huddart J found the view of Justice Martinson expressed in Baum v. Baum (1999), 182 D.L.R. (4th) 715 at paragraph 28 to be of assistance:
Valid corporate objectives may differ from valid child support objectives. The purpose of s.18 is to allow the court to “lift the corporate veil” to ensure that the money received as income by the paying parent fairly reflects all of the money available for the payment of child support. This is particularly important in the case of a sole shareholder as that shareholder has the ability to control the income of the corporation. See Bhopal v. Bhopal, [1997] B.C.J. No. 1746 (S.C.), Blackburn v. Elmitt (1997), 34 R.F.L. (4th) 183 (B.C.S.C.) and McCrea v. McCrea (1999), 1 R.F.L. (5th) 320 (B.C.S.C.).‚
Huddart J. went on to hold (at paragraphs 44 and 45):
A court’s effort to ensure fairness does not require a court to second-guess business decisions nor, as Justice Pitfield so colourfully noted in Stamoulos, supra, at paragraph 44, to “place the largest available shovel in the company store. What it does require is that a spouse’s allocation of pre-tax corporate income between business and family purposes be assessed for fairness by an impartial tribunal when parents cannot reach agreement on priorities as they would in an intact family and may upon separation under s.15(2).
To determine whether “Total income” fairly reflects money available for child support, a court might ask what an objective well-informed parent would make available for child support in the circumstances of a particular business over which the parent exercised control, having regard to the objectives of the Guidelines, the underlying parental obligation to support children in accordance with one’s means, and any applicable situation in s.17.‚Äù
Huddart J. lends some insight on when it is appropriate to use each of the corporate income method and the value of personal services method, finding that where the company is wholly owned by the parent in question the proper method is generally the corporate income method (at paragraphs 47 and 48):
The Guidelines give no explicit guidance as to how a parent or a court might go about choosing whether to use the corporate income method or the personal services method in determining annual income. However, s.18 suggests two considerations in the preconditions for its application: (1) which method produces an annual income that more fairly reflects “all the money available to the spouse for the payment of child support;” and (2) which method does the nature of the spouse’s relationship with the corporation support. Section 18 also permits reference to the “situations described in s.17,” and thus to the spouse’s income pattern over the previous three years.
In some cases, the nature of the spouse’s relationship with the corporation will be decisive. Section 18 applies to a spouse who wholly controls a corporation, but it also applies to one who shares ownership and control with others. In the former case, the corporate income method is likely to be the fairer method of determining income. This is because it allows a court to include not only reasonable payment for personal services but also a reasonable return on the owner’s entrepreneurial capacity and investment. These are sources of income available for child support an intact family would utilize. Moreover, it not only permits but requires the inclusion of the income of companies related within the meaning of the Income Tax Act, and of non-arms length payments made without value for the company.‚Äù
Finally, Huddart J. focuses on the issue of how much of the company’s pre-tax income should be considered for the purpose of Guideline support, finding that monies that are reinvested back into the business to sustain the viability of the company should not be included in the payor’s guideline income (at paragraphs 54 and 58):
The Guidelines allow a court to include all of the pre-tax income of a corporation for the most recent taxation year in a spouse’s annual income for Guideline purposes. They do not require it. I am not persuaded they make the inclusion of all pre-tax income the default position. …
… It seems to me regard should also be had to the nature of the company’s business and any evidence of legitimate calls on its corporate income for the purposes of that business. Justice Drake cautioned about not killing the goose who lays the golden eggs. Monies needed to maintain the value of the business as a viable going concern will not be available for support purposes. In my view they should not be included in determining annual income. In Hollenbach v. Hollenbach, 2000 BCCA 620, [2000] B.C.J. No. 2316, the trial judge recognized the need for a reserve for depreciation as an appropriate factor to be considered in a real estate business. Justice Dorgan recognized Mr. Kowalewich’s business expansion plan
as a valid business purpose in a retail business.”
The First Bartkowski Decsion:
In Barktowski v. Bartkowski, 2001 BCJ 2711, the wife sought spousal and child support based on the husband’s substantial T4 and Line 150 income, which was almost $850,000 for the year preceding the court application. However, the court rejected the wife’s claim and found that Line 150 of his tax return was not representative of his guideline income since this amount was a fictional salary, designed for income tax purposes.
The husband argued that the court should ignore his Line 150 income, and rather, look at his monthly salary, bonus, car expenses, and RRSP contributions as setting his true income which he argued was not $850,000 but only $279,600. The husband argued his companies needed $500,000 working capital to be held in reserve and explained as follows (at para17 -18):
(He) and his brother have agreed to use their corporate and personal tax situations, together, to minimize over-all tax. They do this by paying much of the companies’ profits to them as shareholders as personal, taxable, income so that the companies themselves can continue to reap the small business tax rates. The “excess” funds are then immediately re-invested into the companies, which pay the personal tax liabilities of the two shareholders. Generally speaking, the surplus of these re-invested amounts, after paying the shareholders’ personal income tax, is credited to their respective shareholder loan accounts. There is certainly nothing hidden in this, and the situation would be easily seen and understood by anyone reviewing the companies’ financial statements, together with Mr. Bartkowski’s tax returns (all of which have been produced).
Mr. Lindsay’s approach is to credit Mr. Bartkowski with the actual funds received by him, which are comprised of his monthly salary ($4,000.00), a monthly bonus paid from his shareholder’s loan account ($2,000.00), and various and variable payments made to his benefit by the loan account (as, for example, eyeglasses and vehicle expenses paid in 2000, or RRSP payments made in other years). These benefits should, he says, be grossed up by 100% for Guideline purposes, as all are net of taxes, and as this income/benefit total would annually take him to the 50% tax bracket. These received amounts, grossed up for taxes, are:
1995 $153,000.00
1996 254,000.00
1997 179,000.00
1998 257,000.00
1999 227,000.00
2000 279,600.00
He further averages the last three years’ incomes as above, to a rounded figure of $255,000.00.
In reaching his decision, Master Baker reviewed the Kowalewich decision for the premise that the only purpose of the Child Support guidelines is to permit an impartial assessment of the money available to a parent to pay child support. There should be no other presumptions or queries as it has been accepted in Baum v. Baum ((1999) 182 D.L.R. (4th) 715, B.C.S.C.) that corporate objectives may differ from valid child support objectives.
The Court went on, at paragraph 35 to look at Mr. Bartkowski’s companies cash flow statement and found that the companies available cash was $886,666.00 while Mr. Bartkowski’s total shareholders loan was approximately $1,188,800.00 meaning the companies would be put into a deficit position if they were required to repay the loans. Hence, Baker stated as follow (at para 36):
The question then becomes: how much, if any, of these funds ($886,666.00) should be attributed to Mr. Bartkowski in addition to the funds he already acknowledges as compensation for his personal services? Mr. Lindsay argues that even if it wished to dip into the companies’ reserves further, the court should decline to do so, as the companies require not less than $500,000.00 in their aggregate reserves (viz. para. 19, above), and that further reserves might also be needed in an uncertain economy. There is, of course, nothing wrong with a company retaining reserves to secure its viability (Kowalewich, at para. 58)‚Äù
Master Baker went on to hold at paragraph 39:
Considering the evidence available to me, and the fact that these are interim proceedings, it is my view that Mr. Bartkowski’s compensation could be safely and reasonably increased from the sum suggested by Mr. Lindsay ($255,000.00) by $45,000.00 to a round figure of $300,000.00. Such a sum would leave Mr. Bartkowski well rewarded for his management of the companies and (even if his brother John removed a similar extra sum) would still allow the companies reasonable reserves. I therefore attribute to Mr. Bartkowski an annual income of $300,000.00 so that the monthly Guideline sum of $3,202.00 will be paid by Mr. Bartkowski as child support.‚Äù
The Court also went on to deal with the needs of the wife and determined that it could look at the pre-separation standard of living to help define the level of spousal support (at para 44 and 45): Mr. Lindsay argued that Ms. Bartkowski’s circumstances and stated needs must be examined critically, and that a “means and needs” test must be applied (Nataros v. Nataros ((1998) 40 R.F.L. (4th) 308, 1998 Carswell BC 944). By this analysis many of the expenses listed by Ms. Bartkowski can be reduced or eliminated as inappropriate on an interlocutory application, and that assuming child support fixed at a presumed income of $255,000.00, her net need is reduced to approximately $800.00 monthly.
It should be noted that in Nataros Master Joyce attributed an annual income to Dr. Nataros of $158,000.00, almost precisely one-half of the income I have attributed to Mr. Bartkowski. This, alone, is a significant fact distinguishing Nataros. I prefer the approach of Donald, J., in Muir v. Muir ((1992) B.C.J. No. 851), who also considered a claim for interim spousal support. Interestingly, in that matter the payor’s income was found to be $350,000.00, which, even allowing for inflation since 1992, more closely approximates Mr. Bartkowski’s income than does Nataros. In Muir the parties had agreed that the pre-separation standard of living would define the level of maintenance, but disagreed as to what that standard was. The parties had saved considerable sums in their marriage to guarantee future security, and had therefore reduced their standard of living. Donald J. found that “needs” must include a consideration of pre-separation lifestyle, and that the standard may be adjusted if the parties, as had the Muirs, maintained a low standard to ensure savings.‚Äù
Hence, Master Baker found that it is appropriate, although not mandatory to consider Ms. Bartkowski’s pre-separation lifestyle in determining spousal support. His Honour, further reviewed Ms. Bartkowski’s claimed expenses and reduced them where he found them to be inflated. He ultimately awarded spousal support equal to her legitimate expenses after accounting for the fact the award is taxable to her.
The Second Bartowski Case:
Another case considering the effect of s.18 of the Federal Child Support Guidelines and the determination of income derived from the ownership of corporate assets is Bartowski v. Bartowski [2003] B.C.J. No. 720. This case involved the brother of the husband in the Bartkowski case discussed above.
The same section 18 argument was advanced as was advanced in his brother’s case, Bartowski v. Bartowski [2001] B.C.J. No. 2711( “First Bartowski decision “). Essentially, this argument is that line 150 on his income tax returns does not disclose his actual income for any of the years that it is claimed since he was in effect overpaid as a result of a tax planning scheme and that most of the amounts listed at line 150 of his tax returns were in fact reinvested into the companies.
Hence, Mr. Bartowshi argued that his income for the purpose of the Federal Child Support Guidelines should not be based on the line 150 box of the income tax return, but rather should be based upon s.18 of the Guidelines. Specifically, Mr. Bartowski cited the same argument as his brother, that s.18 (1)(b) should be applied and his guideline income thereby determined on the basis of valuing his personal services to the companies plus his rental income minus expenses.
The wife, in response to the arguments submitted by her husband, submitted that s.18 has never been used to reduce income for Guideline amounts but has only been used to add income to meet the requirements of the Guidelines to ensure that all monies available to the payor are taken into account in fixing an appropriate amount of child support.
Justice Chamberlist adopted the reasoning of Master Baker, at paragraph 17 of the First Bartowski decision in light of the close financial relationship of these brother vis a vis their companies:
Mr. Bartkowski and his brother have agreed to use their corporate and personal tax situations, together, to minimize over-all tax. They do this by paying much of the companies’ profits to them as shareholders as personal, taxable, income so that the companies themselves can continue to reap the small business tax rates. The “excess” funds are then immediately re-invested into the companies, which pay the personal tax liabilities of the two shareholders. Generally speaking, the surplus of these re-invested amounts, after paying the shareholders’ personal income tax, is credited to their respective shareholder loan accounts…
Justice Chamberlist went on to review the provisions of s.18 and held (at paragraphs 34 and 35):
As can be seen, nothing contained within these provisions of the Guidelines indicates that s. 18 cannot be used to reduce the “line 150” amount. It is possible to read the phrase “does not fairly reflect all the money available to the spouse” in s. 18(1) to mean that that section will only apply when more income is available to the payor spouse than was reported in line 150. However, this interpretation probably lends too much significance to the wording, especially since s.18(1) imports s.17 into it.
Section 17 defines broad parameters for varying T1 amounts when it “would not be the fairest determination” of income. I conclude from this interpretation that the purpose of s. 18 is to assist courts in making the fairest determination possible and as a result the narrow reading and the narrow interpretation that it can only be used to increase the line 150 amount would unfairly restrict this application.‚Äù
Justice Chamberlist went on to consider Francis v. Baker, [1999] 3 S.C.R. 250, wherein the Supreme Court of Canada considered the proper interpretation of s. 4 of the Guidelines. That section empowers the court to set an amount for child support that it deems “appropriate” when the payor spouse’s income is in excess of $150,000.00 and the court considers the Guideline table amount to be “inappropriate”. Bastarache J. held that s. 4 could be used to vary the support by either increasing or reducing the table amount. He explained, at para. 40, that the section must be interpreted in light of the stated objectives of the Guidelines, essentially meaning that the section should be broadly interpreted. It is apparent from Francis that an interpretation of s.18 of the Guidelines should give effect to the objectives of flexibility and fairness, although s.18 makes no reference or mention of “appropriateness”.
Hence, Justice Chamberlist went on to consider whether Francis was applicable to the facts in Bartkowski in light of the fact that Francis specifically addressed s.4 of the Guidelines and the word inappropriate . His lordship determined that the reasoning that the guidelines should be interpreted broadly with the objectives of flexibility and fairness should also be applied to interpreting s. 18, holding as follows (at paragraph 40):
A review of the provisions of the Guidelines, however, demonstrates that they are generally designed to allow courts to arrive at an amount of child support that would be appropriate in all the circumstances. In Francis, the Supreme Court of Canada obviously favoured a broad interpretation of the legislation when it considered the application of s.4 . …
It would follow therefore that if the purpose of the Guidelines is ultimately to arrive at an income that is fair and accurate in all the circumstances, a narrow interpretation restricting the application of s.18 only in limited circumstances where more income can be imputed to the payor spouse than appears on line 150 would be inconsistent with the legislative scheme. “Fair” must mean that the amount available for child support is fair as between the payor par
ent and the recipient child. If the amount of income declared in the tax return at line 150 truly does not reflect the amount of income available to the payor spouse for the payment of child support, the court should be able to consider how much income is actually available so that it might order a reward that is both fair and realistic.”
The Court further held the test for determining the proper income was as follows (at para 51):
I am of the view that these cases reveal an emerging presumption that the corporation’s pre-tax income will be assumed to be available to the shareholder payor for the payment of child support unless compelling evidence is led by the payor spouse to support the conclusion that re-investment is necessary to sustain the company as a viable enterprise. Cases from outside of this jurisdiction also tend to be leaning in that direction.‚Äù
Further, (at paragraphs 55 -56), Justice Chamberlist held:While Mr. Bartkowski’s tax planning should be encouraged because it increases the overall wealth of the companies, benefiting both Mr. Bartkowski and his children, he cannot utilize this tax plan to prevent a fair and realistic income being attributed to him especially if the lower income he seeks to have imputed to him does not actually reflect the increase in his personal wealth resulting from his companies’ preferred tax treatment.
I am satisfied with the concession made by Mr. Bartkowski with respect to the tax gross-up of the monies received by him from the corporations as an interim measure. However, there is not sufficient evidence before me to make a finding that the other monies repaid back to the companies should be treated as being unavailable for child support.”
Accordingly, the Court held his income to be $211,725 and not the average of his 1999- 2001 years tax returns which were $678,068.00.
