Lawyer’s Assets May Be Marital Property But Professional Goodwill is Separate Property

Bloggers note: Smith is another important, if not iconic case, family lawyers and business valuation experts should know well.

Smith v. Smith, 709 S.W.2d 588 (Tenn. Ct. App. 1985)

Lawyer’s Assets May Be Marital Property But Professional Goodwill is Separate Property

Angelyn Jenkins Smith and Ewing Smith were married in 1952.  Mr. Smith was an attorney and was first licensed in 1956.  He was a 30% partner in the Murfreesboro law firm in which his father had earlier been a partner.  For the five years prior to the parties’ divorce, Mr. Smith’s income had averaged approximately $96,000 per year.

Mrs. Smith had a degree in accounting, but was neither a public accountant nor a certified public accountant.  For several years prior to the divorce, she had worked part-time as an accountant, and her income for the five years prior to the divorce averaged approximately $8700 per year.

Mr. Smith’s interest in his law practice was not mentioned in the trial court’s final decree.  (The decree also failed to mention a building owned by Mr. Smith together with his sisters, although Mrs. Smith did not object to this exclusion.  The Court of Appeals surmised that the parties considered it separate property, since the interest came from Mr. Smith’s father.)

Mrs. Smith appealed, and contended that the law practice should have been considered part of the marital property.  The Court of Appeals agreed, and noted that a profession can, indeed, be marital property, and should have been so treated in this case.  The Court of Appeals noted that certain assets should be included in the valuation of the firm.  For example, physical assets such as furniture, building, and library have a definite value.  Similarly, accounts receivable have a value which should be included.  The Court of Appeals also had to decide the more difficult issue of whether the firm’s professional goodwill could be considered as part of the value of the marital property.

In the case of a law firm or other professional business, the Court of Appeals held that the goodwill should not be considered as part of the marital property.  This is because it is indistinguishable from the future earning capacity of the professional.  It amounts to reputation, which cannot be sold.  The only way that reputation or goodwill can be monetized is in the future salary of the particular professional.

The only evidence of the value of the firm (ignoring its goodwill) was an estimate that Mr. Smith’s share of the accounts receivable were worth $10,000.  In addition, Mr. Smith had asserted that he had been taking approximately $8,000 per month out of the practice, but that this amount would be smaller since the partners were changing the method of computing the share.

The Court of Appeals held that the best way to take the law firm’s value into account would be to award Mrs. Smith a portion of the income for a limited time.  On these facts, the Court of Appeals held that she should be awarded an additional $1,000 per month for two years.

Mrs. Smith did apparently present some expert testimony at trial as to the value of the law practice.  The Court of Appeals noted that the trial court refused to allow expert fees for this testimony.  However, the opinion is silent as to the nature of this testimony or the name of any expert witness.

This post is part of a series, Appreciation of Separate Property: The Forensic Accountant’s Full Employment Act.

To learn more, visit When Professionals Divorce in Tennessee: Valuing Professional Practices.