THE COURT OF APPEALS GOT IT WRONG – AGAIN!

Barbara MorgensternThe North Carolina Court of Appeals has struggled with its interpretation of the divisible property statute since its enactment in 1995.  This statute, codified at G.S. Section 50-20(b)(4), provides for the division of certain assets and debts that were acquired after the date of separation.  The first issue they have incorrectly decided on a number of occasions was the implementation of Section 50-20(b)(4)(d) which currently provides that “divisible property” includes “all passive increases and passive decreases in marital debt and financing charges and interest related to marital debt.”  The error the Court of Appeals repeatedly made was to distribute assets with encumbrances to a spouse at their net value (fair market value less encumbrance) and then give a spouse credit for post-separation payment of the same encumbrance, thus double-counting the debt service.  See, e.g., Hill v. Hill, 781 S.E.2d 29 (2015).  In her treatise, Professor Reynolds provides examples of how such debt service should be treated.  3 Suzanne Reynolds, Lee’s North Carolina Family Law, § 12.52(d) at 48-50 (2016 Cum. Supp.).  The Court of Appeals has finally begun to apply the suggestions made by Professor Reynolds in Cushman v. Cushman, 781 S.E.2d 499 (N.C App. 2016).

The most recent error is the Court’s interpretation of G.S. Section 50-20(d)(2) which defines “divisible property” to include “all property, property rights, or any portion thereof received after the date of separation but before the date of distribution that was acquired as a result of the efforts of either spouse during the marriage and before the date of separation, including but not limited to, commissions, bonuses, and contractual rights.” (Emphasis added)

In Green v. Green (N.C. App. Oct. 3, 2017), the defendant husband was a partner in the law firm of Strauch, Fitzgerald and Green.  Another partner brought a contingency fee case to the firm arising out of the 2010 Vancouver Winter Olympics.  After the parties separated, the firm was granted summary judgment on the issue of the defendant’s liability and subsequently won a $19.1 million verdict for its client at trial.  While on appeal, the matter was settled in mediation for $16.9 million, yielding a contingency fee for the firm in the sum of almost $5.95 million.  The firm kept detailed billing records which reflected that the hours billed prior to the separation of the parties totaled 5,159, or 78% of the total hours billed.  Of the total contingency fee, the husband received $992,000 after taxes.

The trial court valued the husband’s interest in the law firm at $314,476 as of the date of separation.  The trial court further ruled that $635,575 of the contingency fee paid to the husband was both deferred compensation and divisible property and ordered that half of that amount to be paid to the wife.  The trial court got it half right.  Mr. Green appealed.

On appeal and as a case of first impression, the Court of Appeals first held that a contingency fee earned partly prior to the separation but paid afterwards was not deferred compensation, which it correctly held was “money, which by prior arrangement, is paid to an employee in tax years subsequent to which it was earned.”

Unfortunately, the Green Court further holds that the contingency fee was not divisible property under the second prong of the statute, stating that defendant did not acquire any right to receive income from the contingency fee case prior to the parties’ separation.  Moreover, the Court stated that the contract was between the firm and its client, not defendant and the client.  The Court noted that plaintiff furnished no case law holding that legal fees earned on a contingency fee basis should be considered contractual rights under the divisible property statute.

The decision in Green that a contingency fee partially earned prior to the date of separation but paid after the date of separation is not divisible property is contrary to the statute and the opinion of the two most respected commentators on North Carolina family law, namely Professor Sally B. Sharp, formerly of the University of North Carolina School of Law, and Professor Suzanne Reynolds, now dean at the Wake Forest University School of Law.  Prof. Sharp wrote an article in the North Carolina Law Review in September 1998, shortly after the divisible property statute was enacted.  In her article, she states that although some states have held that contingency fee contracts pending at the time of separation are too speculative to be divided at divorce, “a very clear majority of state courts have held that such contingency fee contracts are indeed divisible.”  (citing Arizona, California, Colorado, Louisiana, Maryland, Massachusetts, Washington, West Virginia and Wisconsin cases).  Sally Burnett Sharp, Step by Step:  The Development of the Distributive Consequences of Divorce in North Carolina, 76 N.C. L. Rev. 2017, 2123-24 (1998).  She notes that contingent fee contracts that mature into judgment or settlement after the date of separation will be partially divisible property at equitable distribution and “the fact that it may not be wholly fulfilled ‘does not mean that valid enforceable contract rights do not exist.’”   Id. at 2125 (quoting Garrett v. Garrett, 683 P.2d 1166, 1169 (Ariz. Ct. App. 1984)).

Similarly, Prof Reynolds has written in her treatise that “rights under a contingent fee contract that mature after separation and before distribution are divisible property to the extent of pre-separation labor pursuant to the contract.”  3 Suzanne Reynolds, Lee’s North Carolina Family Law, § 12.52c at 12-179 (5th ed. 2002).  Acknowledging Prof. Sharp’s article, Prof. Reynolds points out that “the fact that the rights are subject to contingencies affects their value, but it should not preclude the court from classifying it as divisible property.”  Id.

Thus, Mr. Green received a windfall of almost $992,000 in contingent fees that were mostly earned through his hard work during the marriage and prior to the date of separation.  The case has been remanded with instructions to consider the contingency fee as Mr. Green’s separate property.  This result is exactly why the divisible property statute was enacted.  Prior to its enactment in 1995, employee spouses were asking their bosses to pay their bonuses and commissions after the date of separation to cheat the other spouse out of an asset to which they should have been at least partially entitled.  See, e.g., Godley v. Godley, 110 N.C. App. 99, 429 S.E.2d 382 (1993) (delayed payment of commissions); Edwards v. Edwards, 110 N.C. App. 1, 428, S.E.2d 834 (1993), disc. rev. denied 355 N.C. 172, 436 S.E.2d 374 (1993) (delayed receipt of a bonus).  The Green decision is clearly bad law!