Understanding Support Payments: Business vs. Personal Expenses
By Amanda Marsden, Senior Family & Estate Planning Lawyer, Calgary
When going through a divorce or separation, a major concern is often how much child or spousal support one might owe or receive. For most people, this calculation is fairly straightforward. If the parent responsible for paying support (the payor) is an employee, their total income reported on line 15000 of their tax return gives a clear picture of their finances. In these cases, once financial documents are shared, it’s usually easy to agree on the support amount.
However, things get more complicated when the payor is self-employed. Self-employed individuals can deduct business expenses from their income, which means their reported income on line 15000 may not wholly reflect the funds available for support. This differs from employees whose allowable deductions are more specific and limited.
In this blog, we'll explore the complexities of determining income for self-employed individuals in the context of support payments. We will explain the nuances of business vs. personal expenses, discuss landmark legal cases that have shaped these determinations, and outline common types of expenses that may be scrutinized and potentially added back into a payor's income. By understanding these factors, you'll be better equipped to navigate the financial aspects of support calculations and advocate for a fair outcome in your own family law case.
How Courts Scrutinize Business Expenses
Income manipulation is a longstanding issue, and its implications in family law cases are particularly significant where accurate financial disclosure is necessary to accurately calculate child and spousal support payments post-separation.
While it is often the case that self-employed individuals receive accounting advice to maximize their deductions and reduce their tax burden—and these deductions are usually legitimate for tax purposes—it can result in a scenario where the income listed on their tax return does not accurately reflect the actual funds available for support. While business expenses may be valid for tax purposes, they are scrutinized differently in the context of child or spousal support calculations.
The distinction between business and personal expenses was elucidated in a landmark Supreme Court decision from the 1990s, Symes v Canada [1993] 4 S.C.R. 695. The case involved a lawyer who sought to deduct childcare expenses as a business expense. The court's ruling established that expenses primarily intended for personal benefit are not deductible from business income for support purposes.
The Federal Child Support Guidelines explicitly state that the permissibility of a business expense deductions under the Income Tax Act does not automatically translate to their acceptance in support calculations. This distinction is crucial as many expenses - such as cellphones, travel, meals, and vehicles - have both business and personal components. In these scenarios, all business expenses undergo careful examination. Judges and arbitrators often assign a percentage of these expenses to each category, with only the portion deemed business-related being deductible for support calculations. The potential “add back” of business expenses can be extensively negotiated when working towards a settlement.
“Adding Back” Business Expenses
It is important to note that the burden of proving the necessity of business expenses and their legitimacy as deductions for determining support lies with the payor. It is not the recipient of support who must show that an expense should not be deducted, but rather the self-employed person who must demonstrate the necessity of the expense. This is one of the reasons why financial disclosure is so important in family law. Having documentation that demonstrates self-employment or business expenses should be a deduction to income is essential to ensuring that appropriate support is paid.
Lawyers with experience in this area typically examine the following expenses, which may be added back to a payor’s income for support purposes:
- Personal use of business assets - Expenses related to the personal use of business assets, such as vehicles or equipment, may be added back into the payor's income. This includes expenses associated with personal vehicle use, personal use of computers, or entertainment expenses not directly related to business activities.
- Excessive or unreasonable expenses - Any business expenses that are deemed excessive or unreasonable may be added back into the payor's income. This might include extravagant travel expenses, lavish client entertainment, or unnecessary luxury items. There are situations where a portion of potential meals and entertainment expenses are added back into the payor’s income, recognizing that although taking clients out for meals is a necessary business activity, the payor also received the benefit of eating a meal they would otherwise have been required to pay for personally.
- Non-business related expenses - Expenses that are not directly related to the operation of the business or are primarily for personal benefit may be added back into the payor's income. This may include personal vacations billed as business travel, family members' salaries for non-existent or nominal work, write-offs related to a home office, or personal expenses disguised as business expenses.
- Non-arm's length transactions - Expenses incurred through transactions with related parties, such as family members or close associates, may be scrutinized and added back into the payor's income if they are not considered arm's length or if the services provided do not justify the expenses claimed.
- Expenses not necessarily incurred to earn income - Expenses that are not essential for generating business income or are primarily for personal convenience may be added back into the payor's income. This could include excessive office rent for a larger space than necessary or home office expenses that are disproportionate to the business’s needs.
- Non-deductible expenses - Expenses that are not deductible under tax laws or are specifically disallowed for support calculation purposes may be added back into the payor's income. This includes expenses that may be allowable for tax purposes but are not considered legitimate business expenses for support calculation purposes.
- Unsubstantiated or unsupported expenses - Any expenses that lack proper documentation or substantiation may be added back into the payor's income. This includes expenses without receipts, invoices, or other evidence of their legitimacy.
Navigating these complexities requires a comprehensive understanding of family law principles and precedents. Failure to grasp the nuances of income determination for support purposes can have significant financial implications, potentially resulting in over or underpaid support amounting to tens or even hundreds of thousands of dollars. At Crossroads Law, our experienced team of family lawyers are here to help you understand and manage these challenges. Don't navigate this complex process alone—book a free 20-minute consultation today to ensure your financial and legal rights are protected.
