Can Cash Business Owners Hide Income to Lower Tennessee Child Support?
What do cash-based business owners really earn for determining income for Tennessee child support?
Gathering Evidence of Cash Based Business Earnings
A parent who is self-employed and owns a business routinely paid in cash is generally viewed by lawyers as one of the most difficult type of Tennessee child support case. What has worked in favor of parents seeking child support is that so little cash is used any more in the modern economy that these cases tend to be less frequent. But, the problem still exists.
Because not all of the cash received may be recorded by owners of a “cash business,” the income reported on tax returns and for child support likely only represents a small portion of the true sales of the business if all of the cash received was recorded and included in income. This is probably the most common way to hide income.
Typical business owners primarily paid in cash include retail sales, restaurants, bars, lawn cutting and landscaping services, and construction sub-contractors like painters and sheet-rock. Some contractors may even provide an incentive offering substantial “cash discounts.” Some cash business owners may even refuse any form of payment other than cash from customers.
A simple checklist of documents in self-employment cases begins with all income tax documents that can be obtained, from the Schedule C (Sole Proprietorship) to the Form K-1 (partnerships, corporations) to the Schedule E (rental property). One can also seek W-2 Wage and Tax Statements in addition to all Form 1099 Miscellaneous Income.
If the information contained in these tax-related documents would yield an unsatisfactory child support computation, one must stop and ask whether there is any possibility of actually proving cash income that went unreported. One might hear a story about a safe, firebox, or safety deposit box, but the odds of timely seizing those items via court order is slim. Or one might hear about a stash of cash taped behind file cabinet drawers or above a rafter or drain pipe, but rarely, if ever, can parents take the initiative to seize the cash to bring in to trial for proof.
Yet another problem surrounding cash freely floating into a parent’s pocket is that if the other parent is a spouse and is knowledgeable of cash flow, both parents could face false income tax reporting charges. The “innocent spouse” defense is hard to prove to the IRS when a parent now wants to vilify the self-employed parent who created the lifestyle the family was enjoying.
Income Tax Returns May Lie But They Are Still the First Step for Child Support Determination
All debate aside, the first step in any child support case is the calculation of base child supporting, starting with each parent’s income. Courts generally start with income as last reported on income tax returns. For the self-employed parent with cash transactions, this is generally the IRS Schedule C, beginning with the bottom line for net income (loss).
One could almost view the reported net income as the “least” amount of income when a parent is self-employed. In some states, like New York, there is even a legal presumption in various reported cases that self-employed individuals routinely under-report income by at least 20%. Again, the question is whether one can find any evidence of cash, whether in the form of deposits to a personal, instead of a business account, or in the form of checks being cashed and not recorded, or similar schemes.
As stated by the Tennessee Supreme Court, “These self-employment guidelines are fashioned in such a way as to authorize the trial court to address the potential of a self-employed obligor to manipulate income for the purpose of avoiding payment of child support.” Angela (Fezell) Taylor vs. Douglas W. Fezell, 158 S.W.3d 352 (Tenn. 2005). In other words, begin with the tax-related information and the strict computation, and then apply such additional elbow grease and wisdom as the credibility of the self-employed parent demands.
Checking Bank Deposits
An excellent illustration of the kind of work required to attack the claims of a self-employed parent is Irina N. Parris vs. Jerral D. Parris, No. M2006-02068-COA-R3-CV (Tenn. Ct. App. 2007). The father claimed he was a poet and construction company owner; he also owned rental properties. He claimed that his income from Harmony Industries for three years from 2004-2006 was “negative zero.”
The court decision tells us that bank deposits during the period April 2005 to April 2006 were $237,692.76 of which $191,109.87 was business income. The court decision indicates that the father used only one bank account for all of his financial transactions; he did not keep separate accounts for business and personal transactions, as is the IRS-recommended accounting method. Hence, the court tallied all deposits and then had to distinguish between those that were payments to the business and those that were not. This is one method that an expert accountant witness or a court-appointed expert can use to analyze the claimed “gross receipts” of a business.
Ultimately, in the Parris case, the court determined that the “net income” to the father was actually $149,228.96 and computed his child support obligation to be $1,646 per month – substantially more than the “negative zero” income claimed by the father.
Forensic Accountants Utilize Specialized Methodologies and Techniques to Catch the Tennessee Cash Business Owner Hiding Income
The analysis conducted in Parris is a standard approach, but there are others. One is similar to the IRS “lifestyle audit” or “net asset method” which adds up the quantifiable assets such as houses, cars, boats, etc., and calculates how much a person would have to earn per year to buy such items. And, another approach is to use data from the Bureau of Labor Statistics “Wage Data by Area and Occupation” to show the court the average earnings within a given field, location, and education as indicative of the earnings potential of the self-employed parent.
Forensic accountants are often called to investigate and testify in situations like these. As expert witnesses, forensic accountants are experienced with many methodologies, techniques, and law concerning catching the cash business owner spouse who underreports income or seeks to actively conceal or hide income. These special CPA’s will need to review the tax returns and other financial statements, bank statements, and gain a sense for the overall lifestyle and personal spending history of the business owner spouse. From there, the forensic accountant can work with the client and family lawyer to develop a strategy and action plan to make sure that as much of the cash business owner’s income as possible is included for calculation of child support.
As an additional resource, read: What A Divorcing Woman Needs To Know About Her Husband’s Cash-Based Business, by Jeff Landers, Forbes.com, quoting Miles Mason, Sr. from his book, The Forensic Accounting Deskbook.
References, Resources and More:
- Tennessee Child Support Laws
- Tennessee Child Support Law Answers to FAQs
- Tennessee Child Support Calculator & Links to App
- Tennessee Parenting Plans and Child Support Worksheets: Building a Constructive Future for Your Family
- For analysis, updates, commentary and case law summaries, view the Tennessee Child Support category of our MemphisDivorce.com Tennessee Family Law Blog.