As always, before reading this post please review my disclaimer by clicking on the link above or by clicking on this link. As always, any legal principles discussed herein apply only to the Commonwealth of Virginia.
Introduction
When I first discussed how child support is determined, I noted that, in theory at least, most cases of child support involve a relatively simple calculation. You plug in each parent's income, any support for other children, work-related child care, and health insurance costs, and then a formula puts out how much child support should be. In that same post, I mentioned a number of complications that sometimes arise that make the formula itself more complicated. What I did not do, however, was get into some of the complications that make calculating the very numbers that go into the formula difficult. Almost every number that goes into the formula could have one or two blog posts of its own to discuss - but how to determine "income" is probably the one that could have by far the most. In today's blog post, I will discuss just one of those potential income calculation complications - self-employment.
When the formula for child support was derived, legislators envisioned two of your "typical" parents. People employed by companies that pay them a consistent and pre-determined salary. Yet, in the real world, truly "salaried" employees are not nearly as common as we think, and the law applies to all parents in child support situations. One type of parent is going to be those who are self-employed. Your typical self-employed individual not only has no salary, but has an "income" that varies from year to year, month to month, even day to day, depending on how business is going. How on Earth do we calculate that person's income to go into the child support formula?
Child Support Based on "Current" Circumstances
One of the first rules of child support is that all numbers used in the child support formula are supposed to represent the parents' current situation. Your current situation, however, includes the fact that you likely still have money from a previous month's income, and are making plans in accordance with what to expect in a future month. Not to mention, since income every day can change, how do we project a monthly income number (which is what's used in the formula) on the very day of the court hearing?
No Single Formula
It might not surprise you to know that, since self-employment income can be so fact specific, the Court of Appeals and Virginia Supreme Court have never adopted a single formula or test for determining a self-employed person's income. In fact, the appellate courts have upheld a wide array of tests and formulas used by trial judges under what's known as the "abuse of discretion" standard of review - meaning a trial judge will only be reversed if his means of calculating income was pretty obviously unreasonable or based on an error of law (such as saying support is based on past income, rather than on an attempt to determine current income). This means that you will need to convince the judge of what means of calculation best reflects the self-employed individual's current income.
My general approach is that if the self-employed individual is in the same job as he was the previous year, and there's not been a substantial shift in the market, I will start with the business income reported on the individual's taxes the previous year. Then, I will review all of his deductions to remove deductions that were not true "business expenses" (since "gross income" is the measure of income for child support) to yield a final "gross income" number for the previous year. Finally, I will ask for statements showing monthly revenues the previous year and monthly revenues this year to do a year to year same-month comparison (comparing January to January, February to February, etc.). If I see a consistent year over year increase or decrease, I will apply that percentage increase or decrease to the previous year's final number to get my anticipated "current year" income number, which I will then divide by 12.
Obviously this formula is not perfect, and I don't apply it to every situation. Sometimes I'll use a three year, or even five year average, and other times I'll purely extrapolate using current year numbers, but the above method is the one I use most often, and usually find success (meaning acceptance from the court) with.
Try Multiple Formulas
This is also one of those situations where each party can likely reasonably make a claim to numbers that are more beneficial to them. If you find a formula that gives you a better number (a higher income if it's the other side that's self-employed, or a lower income if it's you that's self-employed) and you can honestly say that your formula is reasonable, then there's no reason you should not be able to fight for the court to use that number. As a result, if you can think of multiple reasonable formulas, you should test them all out to see what numbers they yield for you. Hopefully the numbers will be similar to each other, but they may not be, especially if the self-employed person had one unusually good or unusually bad month or year.
No matter what, however, when you find the formula you want to use to calculate the self-employed person's income, be prepared to argue why that formula is the best way to estimate that person's "current" income. In the end, you need to convince the judge that the formula you used to calculate is the right approach, not necessarily that the number you found is the right one.
A Quick Reminder About Taxes
Remember that child support uses "gross income" which means that it uses income prior to the application of taxes. However, purely using gross income would put self-employed individuals at a disadvantage. When you are employed by a business, that business pays half of your Social Security and Medicare taxes for you, and the part that your employer pays is not part of your gross income - so your gross income is calculated after that part of the tax has been paid for you. For a self-employed person, however, they don't have an "employer" to pay that half of the tax, so self-employed people pay the full tax (this is called the "self-employment tax").
So, for a self-employed person, his "gross income" for child support is higher than the "gross income" of a non-self-employed person with the same actual income. As a result, the child support formula reduces half of the "self-employment tax" (the same share that would be paid by a private employer) from a self-employed person's gross income for child support purposes.
Conclusion
Child support is already a confusing and complicated set of calculations. When one parent is self-employed, figuring out that parent's income can create a whole new host of issues. If you are in a child support dispute, you or the other party (or both) are self-employed, and you need help with figuring out incomes, please feel free to call (703)281-0134 or e-mail me at SLeven@thebaldwinlawfirm.com to set up a consultation. Our initial consultations are free for up to half an hour!
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