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The Court's Decision in Phillips v Saunders Inc.

November 7, 2021

British Columbia

,

Canada

Issue

Are the post-separation profits of a family business considered to be family property under the Family Law Act?

Conclusion

In Lin v Wang, the husband began a tutoring business. The wife tutored for the business and also was responsible for administrative tasks relating to the business until separation. The wife claimed a 50% share of the business's net profits for the first two years after separation. The business, during the relationship, was family property, Sharma J. found that, on the date of separation, there was value to the student placements that had been confirmed with payment of a deposit. The confirmed student placements were akin to the concept of of “work in progress” as discussed in J.F.B. v. D.L.P. Sharma J. awarded the wife around $50,000 representing her equal share of the work in progress of the joint business on the date of separation.

In J.F.B. v. D.L.P., the parties had a home renovation business, which they ran as a partnership during the relationship. The plaintiff did most of the physical labour; the defendant was responsible for looking after administrative and business affairs, which she did full time. After separation, the plaintiff continued the business under the same name: the partnership was not dissolved, nor was the business wound up. No evidence was led as to the value of the business’s goodwill. However, the defendant submitted she was entitled to compensation equal to one-half of the net profit realized by the business from contracts she arranged prior to the date of separation. The judge accepted the plaintiff's estimate and awarded the defendant $10,000.

In Phillips v Saunders, rev'd on other grounds in 2020 BCCA 265 (CanLII), the respondent established a corporation into which he channelled his earnings in order to gain tax advantages (Saunders Inc.). Saunders Inc. was a family asset. The respondent argued that the earnings deposited into the professional corporation by the respondent after the date of separation cannot fall into the definition of family property. The claimant submitted that she was entitled to an undivided one-half interest in the value of Saunders Inc. as assessed at trial. The Court held that any portion of Saunders Inc. that could be traced directly to the respondent's post-separation professional income is not family property. The Court reapportioned the value of a holding company that had increased post-separation due to the labour of one of the parties. The value post-separation was generated by a physician as payment for professional services.

In Holt v Holt, during their marriage, the parties operated a COBS Bread bakery franchise through the Bakery. The shares in the Bakery constituted family property. The fair market value ofo the shares of the Bakery was $500,000. After separation, the claimant continued to receive $3,500 per month from the Bakery, which he argued was his share of the profits. Jackson J. disagreed, finding that the $3,500 the respondent received was compensation for her ongoing role in the Bakery. Jackson J. concluded that the $3,500 per month paid to the claimant was an advance towards his share of the family property.

Law

Section 81of the Family Law Act, SBC 2011, c 25 provides:

Equal entitlement and responsibility

81 Subject to an agreement or order that provides otherwise and except as set out in this Part and Part 6 [Pension Division],

(a)spouses are both entitled to family property and responsible for family debt, regardless of their respective use or contribution, and

(b)on separation, each spouse has a right to an undivided half interest in all family property as a tenant in common, and is equally responsible for family debt.

In Lin v Wang, 2019 BCSC 1169 (CanLII), the husband began a tutoring business. The wife tutored for the business and also was responsible for administrative tasks relating to the business until separation. The wife claimed a 50% share of the business's net profits for the first two years after separation. Sharma J. held that, during the relationship, the business was clearly family property:

[59] There is no dispute that during the relationship, the business was clearly family property. The business continued after separation. The fact that Ms. Lin was no longer involved does not automatically disentitle her to any portion of the business’s profits because s. 81(1)(a) of the FLA stipulates family property is divided equally between spouses “regardless of their respective use or contribution”.

Sharma J. found that, on the date of separation, there was value to the student placements that had been confirmed with payment of a deposit. The confirmed student placements were akin to the concept of of “work in progress” as discussed in J.F.B. v. D.L.P. Sharma J. awarded the wife around $50,000 representing her equal share of the work in progress of the joint business on the date of separation:

[60] Section 87(b)(i) of the FLA states that family property must be valued as of the date of trial. Neither party adduced expert evidence about the value of the business. However, I agree with Ms. Lin’s counsel that the cost to the parties of adducing expert evidence about the business’s value would not be proportionate to the money at stake. Mr. Wang’s position was that Ms. Lin was not entitled to any share, but he did not submit that the court was precluded from making an award because of the lack of expert evidence on the value of the business. The lack of expert evidence does not preclude resolution of this issue: J.F.B. v. D.L.P., 2005 BCSC 1607 at paras. 59-66.

[61] Moreover, Ms. Lin does not take the position that she is entitled to an equal share of the business after separation indefinitely, only for two years of the business’s post-separation profits. She conceded at the end of trial that for the 2016-2017 fiscal year, the business’s profits were $48,960, and for the 2017-2018 fiscal year, they were $55,263.44. Therefore, she seeks an equal division of those amounts, which is $52,111.72.

[...]

[65] In this case, the business model was simple: Ms. Lin scheduled classes and performed other administrative tasks significant to the business. Clients paid a non-refundable deposit to register for classes and then paid for tutoring services, which were provided at first only by Mr. Wang. Most students confirmed their place by paying a non-refundable deposit in about May or June for the following summer and academic year. Each student typically enrolled in more than one class.

[66] Although the parties dispute the legitimate expenses of the business, the expenses were relatively modest. The business had virtually no overhead because Mr. Wang’s parents did not charge for the used space in their home where the parties conducted the tutoring. There was no need to invest earnings from the business back into it because the business’s earnings were generated exclusively by clients paying for tutoring services.

[67] Given all of these factors, I conclude that during the relationship the joint tutoring business was an asset. That asset generated profits and those profits were family property. Or, to put it another way, the value of the business was equal to the profits it generated. Any profits generated by actions taken during the relationship, are family property. Upon separation, Mr. Wang unilaterally removed Ms. Lin from the business, and from access to any of the business’s clients.

[68] I agree with Ms. Lin’s position on this issue. Ms. Lin submits that on the date of separation, there was value to the student placements that had been confirmed with payment of a deposit. She submitted that the profits generated in the following two years were tied to those placements. I find the evidence did establish, that on the date of separation, most if not all students had already confirmed bookings for the remainder of the business’s fiscal year (which ran from July to the following June). Even if a student later dropped out, the business kept the deposit that had been paid and found a replacement from the wait list, which was lengthy. However, most students were very loyal, usually remaining with the business for at least three years.

[69] I am also persuaded that the income generated by the confirmed student placements in place on the date of separation was akin to the concept of “work in progress” as discussed in J.F.B.

[70] As noted above, Mr. Wang disputes Ms. Lin’s entitlement to any portion of post-separation business profits. However, he did not address what share would be appropriate if I disagreed with that position, so presumably, his alternate position was that an equal division was appropriate. It could also be that Mr. Wang’s position relies on s. 95, although he did not explicitly invoke that section. Section 95 states a court does not have to order equal division if it would be “significantly unfair” to do so. However, the only reason Mr. Wang disputes dividing any of the business’s profits was Ms. Lin’s non-contribution post-separation. However, that factor is irrelevant (s. 81(1)(a)). He offered no other explanation, and I find there was no evidence to support a conclusion that equally dividing profits would result in significant unfairness.

[71] Based on the foregoing, I award Ms. Lin $52,111.72 representing her equal share of the work in progress of the joint business on the date of separation.

In J.F.B. v. D.L.P., 2005 BCSC 1607 (CanLII), the parties had a home renovation business, which they ran as a partnership during the relationship. The plaintiff did most of the physical labour; the defendant was responsible for looking after administrative and business affairs, which she did full time. After separation, the plaintiff continued the business under the same name: the partnership was not dissolved, nor was the business wound up. No evidence was led as to the value of the business’s goodwill. However, the defendant submitted she was entitled to compensation equal to one-half of the net profit realized by the business from contracts she arranged prior to the date of separation. The judge accepted the plaintiff's estimate and awarded the defendant $10,000:

[59] Following the termination of the relationship, the plaintiff continued to do business under the name “J.[…],” and it appears that nothing was done, by either party, to dissolve the partnership and wind up its business.

[60] No evidence was led as to the value of any goodwill that the business may have had at that time, or, for that matter, any time. Accordingly, the defendant’s claim in that respect is dismissed.

[61] However, the defendant claims, and the plaintiff agrees, that she is entitled to compensation equal to one-half of the net profit of the business realized, directly or indirectly, from contracts arranged by her prior to the termination of the parties’ relationship.

[62] Naturally, there is disagreement as to the amount.

[63] The defendant led evidence as to three or four contracts that she arranged and “estimates” that the net profit realized from that work amounted to $50,000. She claims that a “very conservative estimate” of the compensation she should receive is $10,000

[64] The plaintiff says that those jobs only generated net revenue in the amount of $10,500 and that, as the defendant only arranged for the work to be done while she (the plaintiff) did the actual work, the fair value of the defendant’s contribution is 20% of the “net revenue,” or $2,100.

[65] The trouble with both positions is that the amounts claimed are only estimates. There are no business records from which a net profit can be calculated.

[66] However, the matter must be resolved. In light of the fact that the plaintiff did the work and received payment from the customers, but failed to produce any financial records from which a determination of the “net profit” from those jobs might have been made, I will accept the defendant’s estimates and award her the sum of $10,000 as compensation for her contribution to value of the work-in-progress at the time of termination.

In Phillips v Saunders, 2018 BCSC 960 (CanLII), rev'd on other grounds in 2020 BCCA 265 (CanLII), the respondent established a corporation into which he channelled his earnings in order to gain tax advantages (Saunders Inc.). Saunders Inc. was a family asset. The respondent argued that the earnings deposited into the professional corporation by the respondent after the date of separation cannot fall into the definition of family property. The claimant submitted that she was entitled to an undivided one-half interest in the value of Saunders Inc. as assessed at trial. The Court held that any portion of Saunders Inc. that could be traced directly to the respondent's post-separation professional income is not family property. The Court reapportioned the value of a holding company that had increased post-separation due to the labour of one of the parties. The value post-separation was generated by a physician as payment for professional services:

[55] The parties disagree about how I should determine the value of Saunders Inc. Section 81(b) of the Family Law Act, S.B.C. 2011, c. 25 (FLA) states that subject to an agreement or order that provides otherwise, upon separation, each spouse has a right to an undivided half interest in all family property. Section 81(1)(a) of the FLA stipulates that on separation, each spouse is entitled to family property, “regardless of their respective use or contribution”. The respondent emphasizes the opening phrase “on separation". That is a very specific date. He says that the earnings deposited into the professional corporation by Dr. Saunders after the date of separation cannot fall into the definition of family property. That is because that “property” comes only from Dr. Saunders’ professional services, and it is not derived from any family property. Thus, he says Dr. Phillips’ undivided one-half interest applies only to the value of Saunders Inc. on the date of separation.

[56] The claimant submits she is entitled to an undivided one-half interest in the value of Saunders Inc. as assessed at trial. Section 81(1)(a) of the FLA stipulates that on separation, each spouse is entitled to family property, “regardless of their respective use or contribution”. Pursuant to s. 87(b)(ii) of the FLA, unless an agreement or order provides otherwise and except in relation to a division of family property under Part 6 [Pension Division], the value of family property must be determined as of the date of trial.

[57] Section 95(1)(a) of the FLA permits the court to order an unequal division of family property if it would be “significantly unfair” to maintain the presumptive equal division. In determining significant unfairness, the court may consider “whether a spouse, after the date of separation, caused a significant decrease or increase in the value of family property…beyond market trends” [s. 95(2)(f) of the FLA]. Dr. Saunders argues that subsection’s characterization of significant unfairness should apply in this case to s. 87(b)(ii) to justify not using the date of trial as the date of valuation. Dr. Phillips contends s. 81(1)(a) prohibits the court from considering Dr. Saunders’ contribution to Saunders Inc. at all.

[58] In Jaszczewska v. Kostanski, 2016 BCCA 286, the Court of Appeal discusses the approach to the division of family property at paras. 35 to 44. The Court of Appeal agreed at para. 52 that, “the increase in value [of one of the assets] was significant and was caused by [the respondent] after the relationship had ended” and therefore, it was not a case of “reapportioning in light of relative contributions arising during their relationship” [which is precluded by s. 81(a) of the FLA]. Instead, it was grounded in s. 95(2)(f) of the FLA. The respondent says this reasoning applies to Saunders Inc. and supports his submission.

[59] The claimant disagrees and submits the finding in Blair v. Johnson, 2015 BCSC 761, is applicable and binding. The claimant says Blair confirms there is little judicial discretion to depart from s. 87(b) of the FLA, which requires that the value of family property is the fair market value as of the trial date.

[60] In Blair, the claimant created a holding company during the marriage into which he put shares from two companies, which he incorporated before the marriage. The claimant managed the companies and the respondent worked in another industry (she was a realtor). The Court received expert evidence as to the value of the shares in the holding company at three different points in time: the start of the relationship, the date of separation and the hearing date.

[61] The companies that formed the assets in the holding company were going concerns. One had 13 employees and another 33. Between the date of separation and the date of trial, the value of the company increased significantly. The parties disagreed as to the date of valuation. The respondent wanted it to be the date of separation whereas the claimant wanted it to be the date of trial.

[62] Madam Justice Fleming noted at para. 60 that the statute does not contain any criteria to guide the court's discretion to depart from the presumption in s. 87 of the FLA that the trial date is the date of valuation. She referred to K.M.J. v. J.H.D.N., 2014 BCSC 1895 at para. 154 where the Court pointed out that the legislation provides two mechanisms to address significant unfairness that would arise from equal division of assets: s. 95, and s. 87 of the FLA. Justice Fleming then turned to the wording in s. 95 as an aid to interpreting s. 87, consistent with the modern approach to statutory interpretation. Section 95 reduced the scope of judicial discretion by changing the threshold to depart from the presumptive equal division of property from “unfair” (as it was in the previous legislation) to “significant unfairness”.

[63] At para. 64 of Blair, Justice Fleming examines extracts from the B.C. Legislative Assembly, Official Report of Debates (Hansard), 39th Parl., 4th Sess., Vol. 28, No. 8 (23 November 2011) at 1620. She found that the Legislature intended that s. 87 in the FLA would codify the common law that had developed under the previous legislation, which meant that the valuation date was presumptively the trial date. She also referred to Blackett v. Blackett (1989), 1989 CanLII 239 (BC CA), 40 B.C.L.R. (2nd) 99 (C.A.). In that case Madam Justice Southin explained that it was significant that the legislation provided that the valuation was done at the date of trial because “[i]t is at that point that one spouse is having taken away a vested interest and the other spouse is paying for that vested interest" (quoted at para. 64 of Blair).

[64] Other authorities cited in Blair made it clear that with regard to the issue of fairness, unless there is a reason to depart from the legislation, the valuation date for family assets, even the matrimonial home, is the date of trial. Justice Fleming summarized the case law under the previous legislation, stating that the court's discretion to depart from treating the trial date as the date of valuation was limited to grounds of “unfairness”. However, s. 95 of the FLA now requires “significant unfairness” before the court interferes with the presumptive equal division. Accordingly, Justice Fleming stated (para. 69):

…To the extent that s. 95 and s. 87 may provide alternate routes to address the substantial unfairness that would arise from awarding parties equal shares in family property valued at trial, it seems to me the significant unfairness threshold should also be met before the court departs from the date of trial as the valuation date pursuant to s. 87. [Emphasis added]

[65] The respondent contends that the company in this case is not similar to the holding company in Blair because it does not have any assets. It is simply a vehicle into which Dr. Saunders puts his income to gain a tax advantage. Therefore, Blair is distinguishable because in that case, the increase in value was due to market forces.

[66] I agree with the respondent that the determinative factor is whether the increase in the value of Saunders Inc. was due to market forces or not. There is no “market” for Dr. Saunders’ earnings in the same way that other corporations’ assets have a “market”. Therefore, s. 95(2)(f) does not apply because it refers to an increase in the value of property “beyond market trends”.

[67] I also agree that there is a material difference between the corporation in this case and the one in Blair. In that case, the holding company was composed of two companies that had operations, assets and employees. Therefore, its value could fluctuate with the market and the success of the businesses within it. In contrast, the value of the professional corporation in this case depends solely on Dr. Saunders’ earnings derived from his professional labour.

[68] As I read paragraph 69 of Blair, a spouse has two routes to demonstrate “significant unfairness” to either value assets at a date other than the trial date, or depart from the presumptive equal division of a family asset. A non-exhaustive list of factors to consider in determining significant unfairness to allow reapportionment is contained in s. 95(2) of the FLA. Justice Fleming appears to equate ss. 95 and 87, but it is unclear if that also applies to the grounds for unfairness.

[69] In this case that does not matter since no specific category in s. 95(2) fits the situation before me. Instead, given that the value of Saunders Inc. has always been completely dependant upon Dr. Saunders’ professional fees, I do find it would be significantly unfair to value the parties’ one-half interest as of trial. I rely on the alternate route of assessing the value as of the date of separation.

[70] This route is reasonable in this case because Dr. Saunders structured his finances such that his post-separation earnings went into a different account. He wanted a clear separation between his earnings post and pre-separation. Accordingly, any portion of Saunders Inc. that can be traced directly to Dr. Saunders’ post-separation professional income is not family property. That includes any profit/loss and any investments Dr. Saunders made with his post-separation earnings.

[71] In my view, this is consistent with the legislative scheme when one looks to the definition of family property. Section 84(1) (b) of the FLA deems as family property after separation, any property acquired by only one spouse if it is “derived from” family property as defined in s. 84(1)(a). However, the post-separation income injected into Saunders Inc. is not “derived” from family property; it is “derived” from the professional services of Dr. Saunders.

[72] Thus, I conclude that it would be significantly unfair to assess the value Saunders Inc. at the date of trial, and relying on the analysis of paragraph 69 of Blair, I find a different valuation date is necessary to avoid significant unfairness. I therefore order that Dr. Phillips is entitled to a one-half interest of Saunders Inc.’s value as of the date of separation.

[73] This does not mean that Dr. Saunders enjoys a windfall because his earnings are clearly relevant to the issue of spousal support. In my view, however, the post-separation value of his professional corporation is not subject to an equal division.

In Holt v Holt, 2021 BCSC 1145 (CanLII), during their marriage, the parties operated a COBS Bread bakery franchise through the Bakery. The shares in the Bakery constituted family property. The fair market value ofo the shares of the Bakery was $500,000. After separation, the claimant continued to receive $3,500 per month from the Bakery, which he argued was his share of the profits. Jackson J. disagreed, finding that the $3,500 the respondent received was compensation for her ongoing role in the Bakery. Jackson J. concluded that the $3,500 per month paid to the claimant was an advance towards his share of the family property:

[42] The parties initially paid themselves an hourly rate for their work in the Bakery, but in late 2015 began draws in an equal amount. At that time both parties were working full-time in the Bakery. The claimant stopped working in the Bakery in April 2017, but he has continued to receive a $3,500 per month draw. This arrangement was most recently reflected in a consent order pronounced by Justice Punnett on July 3, 2020, which makes clear the nature of those advances was to be determined at trial.

[43] Relying on Brody, the claimant argues the post-separation monthly advances, which both parties received, were dividends to which both parties were equally entitled as shareholders, and that they should not be considered part of his share of the divided family property. I disagree. The draw amounts were predetermined and did not vary as the Bakery’s net income fluctuated. In Brody, the company’s valuation was based on the net value of its underlying asset, rather than an ongoing operation. But where a spouse who has not worked in an operating family business post-separation has continued to receive funds from the company, the compensation paid by the other spouse to acquire the spouse’s share of the family business has been adjusted: Bartch v. Bartch, 2019 BCSC 1643 at paras. 343, 383, and 487; Namdarpour at paras. 104–107.

[44] The claimant acknowledges the respondent continued to work full-time in the Bakery, as she was required to do under the franchise agreement as the Bakery’s ”bakery principal,” and that the monthly draw was her only income at that time. He argues the only reason he stopped working in the Bakery was because the respondent locked him out. Relying on Namdarpour at para. 68, the claimant argues he should not be penalized and the respondent rewarded for his being locked out of a jointly-owned business, post-separation. However, I find the claimant was not locked out; he had keys and full access to the premises, access to the safe, access to or the ability to obtain access to all of the Bakery’s computer program platforms, including the COBS portal which provided access to the Bakery’s daily sales and other information, as well as COBS’ corporate operations. After separation, the respondent expressed discomfort with him continuing to work in the Bakery and in response the claimant “let it go”. If he had wanted to continue working in the Bakery he could have done so.

[45] Although the claimant argues the monthly advances were his only income, he was free to pursue other employment opportunities. Indeed, his evidence is that post-separation he has set up another company with partners in the United States. The respondent was not

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