You too? Addressing Hidden Cash and Hidden Assets

As evidenced by informally surveying attorneys and clients, most clients believe their spouses have hidden cash and assets prior to a divorce settlement and most divorce settlements disregard this suspicion.  Clients then become unsatisfied that their settlement was fair and complete.  Why?  Because proving that a spouse is hiding cash and assets from a divorce settlement is difficult, and legal teams rarely have the ability or interest to do so.   As this post shows, finding hidden equity of any sort is complicated, but many analysis techniques and considerations exist to do so.

Why spouses hide cash and assets

During the discovery phase of the divorce process, each spouse must document all financial holdings (Interrogatories) and provide financial statements (Request for Production of Documents).  Each spouse needs to sign to the accuracy and completeness of their disclosures under penalty of perjury, so the stakes for hiding cash and financial assets are great.

However, the terms of a divorce settlement introduce such massive financial risk to the standards of living for both parties.  Many spouses believe that their moral or legal transgressions are justified by their even greater negative perceptions of their spouses.  Getting divorced does tend to draw out the worst of many people.

Forensics should focus on the cash flow lifecycle

Proof of hidden cash and assets is difficult because proof may not manifest where and when expected.  The investigation needs to cast a wider net.  Consider the full cash flow lifecycle (see figure).  Apply meaningful analytics across all components of the lifecycle and show that analysis of each component of the lifecycle consistently draws the same conclusion.  In consistencies or anomalies in any component could be evidence of hidden equity.

Income

Income may include far more than wages and salaries.  When I conduct an income assessment for divorce, I consider over forty types of income.  Some of these forty other types of income include bonuses, grants, stipends, gifts, inheritance, government entitlements, and employer contributions to benefits.  Payment sources may include corporations, individuals, governments and other organizations.  Many standards of reporting exist to prove and quantify income, but some types of income do not require any documentation or accounting and can be less obvious to discover.

Holdings

Except for deductions that employers take from a paycheck, income flows to a held entity, which may include physical cash or goods, bank accounts, or some other liquid asset (like stocks).  A holding mechanism can be as simple as physically stored cash or checks or as complicated as income directed to a Health Savings Account or converted to crypto-currency or hard goods and assets (like real estate and collectibles).  To add complexity, a held entity can transfer value between and within holding mechanisms, such as moving money between funds in an investment account or transferring money between savings and checking accounts.

Debts

Debt can include set-value terms (for example, a mortgage), revolving terms (for example, a credit card), or some other obligation directed to an individual or group (for example, ‘I’ll pay for dinner tonight, and you pay next time’).  Debt plays a complicated role in the cash flow lifecycle because it allows a chronological disconnect between the flow from income and expenditures.  This means that income need not equal assets plus holdings within the timeframe analyzed.  To add further complication, debt can be issued either by the selling merchant or by a third-party bank.  The purpose for debt from a third-party bank may require further investigation.

Expenditures

Expenditures are the ultimate destination of income and can include any mix of goods or services.  In some cases, an expenditure is not the final step in the financial lifecycle.  Some expenditures acquire transferable goods or services that then could be a source of equity for future financial transactions.  For example, someone could purchase merchant cards from a grocery store and use those cards to buy goods or services from the associated merchant at a later date.  In another more sophisticated example, transferable home maintenance contracts can be used to negotiate up the price of maintained home when it is sold at a later date.

How spouses hide cash and assets

A spouse may use multiple approaches to hide wealth, using any combination of the components of the financial lifecycle.  Understanding each approach helps identify means to reveal hidden wealth.

Hidden income

Most income must be declared in an annual tax return and most declared income is captured by IRS W-2 or 1099 forms provided to the individual and the Internal Revenue Service (IRS) by the payer of the income.  Despite this, an individual may disregard specific sources of income on a tax return or file an extension to avoid disclosing income until after settlement.  This can be done legally if the individual pays an IRS-defined interest rate for any outstanding tax debt after the annual filing date.  In some cases, this interest fee could be far less than the potential impact to the equity judgement in settlement.

Other forms of income need not be declared on a tax return.  This includes gifts and inheritance (within limits set by the IRS each year), government support payments, and previous alimony and child support. 

A number of these sources of income are transacted by checks.  However, checks can be written in a way to hide their purpose (for example, by manipulating the description written in the memo of a check).  Checks can be held from deposit for 90 to 180 days before they become defunct, which could allow a spouse to hold the check until after settlement.  In many cases, bank statements will not disclose the source or purpose for a deposit with sufficient clarity to understand. 

Many banks will not reveal the source or purpose for transactions with other payment facilitator intermediaries, such as Zelle, PayPal, and Venmo.  In some of those cases, source and purpose information can be found by obtaining statements from the clearinghouses.

Income transferred first to alternative investment mechanisms such as cryptocurrency may attempt to hide subsequent holdings or expenditures.  This could occur because crypto accounts typically disclose less information in their statements and digital wallets than bank statements.

Hidden holdings

Some holdings like stock, cryptocurrency, and hard assets do not require any tax disclosure until sold and unless capital gains are earned.  Even then, some capital gains rely on the honesty of the individual to report.  Banking and bond accounts do not require tax disclosure if dividends for a given account remain below a threshold defined by the IRS.  A person can open a non-interest-bearing bank account and hide any value of savings indefinitely.  Pre-tax investments like IRAs and 401k retirement accounts need not be declared on a tax return until after a withdrawal (typically during retirement).  In some cases, an individual will build equity with an accomplice by paying cash, goods or services to another person with the intent to reap a reimbursement after settlement.

Hidden debt

A spouse is less likely to hide debt because the spouse cannot seek to share the burden of the debt at settlement if it is not disclosed.  That said, debt could hide behavior that could be more damaging to settlement, such as adultery or quid pro quo with a friend or family member. 

In some cases, debt could be the legal burden of an unaware spouse, particularly if that spouse has not paid attention or tracked joint or sole guarantor debt incurred during marriage.  Many spouses will sign documents at the request of the other spouse during the marriage and then forget the debt exists.  A vindictive spouse that tracked the debt may not bother (and may not be required) to inform the guarantor spouse that they have incurred debt.  The guarantor spouse would not receive consideration for the equity of the debt in settlement and could harm their credit rating if payments unknowingly cease.

Mortgage debt normally can be deducted from taxes and would be reported through a 1098 form sent to the guarantor at the beginning of each calendar year.  However, the IRS does not require an individual to declare anything that only reduces an individual’s tax obligation, and 1098 information is not included in tax returns that do not itemize deductions.

Other non-deductible debt, such as credit card balances and fees typically are only disclosed in debt statements (such as monthly account invoices) and possibly payor statements (such as bank statements).

Hidden expenditures

Commonly, spouses will become more secretive when they separate or plan to do so.  In some cases, they want to hide information that could harm their settlement outcome, such as evidence of adultery, gambling or drug use.  These expenditures can be hidden by paying with undisclosed credit cards, paying with cash, trading hard assets, or arranging a quid pro quo for future reimbursement.

Finding hidden cash through discovery

Attorneys use ‘discovery’ to legally compel the plaintiff and defendant (the spouses, in this case) to share information that either party may use to plead their case.  One party can request discovery data from the other party to investigate or validate their potential pleading.

By having an understanding for how spouses hide cash and assets, a skilled forensic analyst can use discovery to acquire the information needed to discover what, how much, when and from where that cash and assets were hidden.  Discovery may need to target each component of the financial lifecycle described earlier.  As a rule of thumb, interrogatories and requests for production of documents should include boilerplate questions to solicit information about each component of the lifecycle.  Financial information is only hidden if it is requested and not disclosed.

Income discovery

Standard discovery requests should include the name and address of recent and current employers.  It should include title, compensation (all types), description of roles, and description of prospects for promotion.  Supporting documentation should include paystubs, benefits information, and tax information (W-2s, 1099s, and tax returns to federal and state).  Sometimes timesheets can corroborate hourly and overtime compensation.  Where any of this data is missing or inconsistent, subpoenas can be used to get these documents from employers and the government.  Note which bank accounts receive employer payments and verify deposits.

Small business ownership poses a unique challenge.  Income for small business ownership involves a more complicated understanding and comparison of revenue, operating expenses, capital expenses, and tax deductions.  Desired small business discovery is far more complex and diverse and should include tax returns, general ledgers, lease contracts, financial banking and spending accounts, and customer data.

Holdings discovery

Standard discovery requests should include an accounting of all bank accounts for recent years, including the last 3 to 5 years of statements and including notations of account open and close dates.  Discovery should include statements and canceled checks.  In some cases, discovery should include teller slips.

If accounts knowingly are not provided or if the flow of hidden cash or assets occurred at an earlier date, subpoenas can be issued to the financial institutions.  Likewise, with the spouse’s social security number, any banking institution can be subpoenaed.  Subpoenas cost money and over 4,000 federally insured banking institutions exist, but sometimes candidate banks can be identified based on proximity of branches to a spouse’s home or place of employment or based on suspicious mail noticed by the other spouse.  Foreign or ‘offshore’ banks can be much more complicated to investigate.

Most financial institutions hold financial records (including statements) for up to 10 years.  In any case, discovery should request copies of canceled checks sent and received because that may be the best way to determine the purpose of those transactions.

Also, discovery should request other types of holding, such as cryptocurrency accounts and clearinghouse accounts (such as Venmo, PayPal, and Health Savings Accounts).  All these accounts can hold funds, and especially if they are not requested in discovery, can be a mechanism to hide cash until after settlement.  Note that some of these types of accounts do not produce statements but may offer dashboards or digital wallets that can be provided in discovery. From my experience, more unusual holdings are more likely candidates for hidden equity. 

Debt discovery

Standard discovery requests should include an accounting of all charge accounts and loans for recent years, including the last 3 to 5 years of statements and including notations of account open and close dates, payments to principal, and overall payments.  If accounts are not knowingly provided or if the flow of hidden cash or assets occurred at an earlier date, subpoenas can be issued to the financial institutions.  Likewise, with the spouse’s social security number, any banking institution can be subpoenaed.  Many banks issue charge cards and offer loans, so the challenges to discovering debt accounts can be similar to that of holding accounts.

Standard discovery requests can include a comprehensive credit report from one of the three major credit reporting organizations.  These reports will include an accounting of every debt account and the status of every payment for 7 to 10 years.  This accounting can be compared to the spouse’s interrogatories to find discrepancies.

Expenditure discovery

Expenditures can draw cash or assets from several direct sources.  Employers can pay on behalf of an employee by garnishing wages, such as for insurance and retirement.  Banks can pay electronically through ‘account clearinghouse’, as is common for mortgages and utilities.  Banks likewise can pay using checks.  Credit cards and clearinghouses can act as a loan or transfer intermediary for a wide variety of purchases.  Cash, other assets, and the exchange of goods or services can also be used.

Discovery should include statements, dashboards, wallets, or any other type of documentation from all these prospective sources to provide a detailed and comprehensive description of every expenditure.  Cash, hard assets, and cryptocurrency normally pose the biggest challenge because little or no documentation normally exists.  However, these forms of expenditures tend to be the least frequent and of lowest value.  Any evidence to the contrary may need to be resolved through the dialog of the attorneys or through cross examination of the spouse at trial.

Finding hidden cash with Analytic approaches

Sometimes missing equity is hidden purposefully.  Sometimes the missing equity is an oversite.  Either way, a divorce financial analyst should have experience to employ any number of techniques to find hidden cash and assets.  To a large extent, analytics to find hidden equity involves reviewing discovery with an eye trained to identify the different means that a spouse can use to hide cash or assets, as described earlier.  Whenever that is not sufficient, other techniques exist, as described below.

The underlying premise is that cash or assets only originate as income (using a broad definition), debt, or asset appreciation and only disappear as expenditures or depreciation.  Any discrepancies should be reconciled by the value of holdings and debt. 

Income + Debt  =  Expenditures + Holdings – Realized Value Appreciation + Realized Value Depreciation

Analytic approaches quantify the value of each component of the financial lifecycle and reconcile the respective values of each component to identify discrepancies.  As part of this, every entity (such as account) of every component of the financial lifecycle may be accounted for and quantified.  All quantified values should be synchronized to one or more instances of time.  Comparing components across different timeframes can get very complicated and potentially more uncertain.

Income analytics

For traditional corporate income, the past normally is prolog, and discovery should confirm that.  Wages, bonuses and grants should grow modestly and steadily.  Tax return data should match W-2s, 1099s and paystubs.  Bank deposits should confirm paystub data.  This comparative reconciliation makes hiding corporate income difficult.

Caveats exist.  For example, some corporations offer grants or options that may have occurred in the years before the tax returns provided in discovery.  Other types of grants or options may not be reported in a W-2 or 1099 until they are exercised.  The accounts holding these assets may produce 1099s to report dividends or interest, but a person can hide these 1099s by not including them in a tax return.  In many cases, the liability risk to the IRS would be low because the taxable income would be low, and fines are based on the value of missing income.  In these cases, an employer may need to be subpoenaed to determine the existence of such compensation. 

Small business income, transactional employment and contracting, and other temporary or self-reporting income open a wide door for hiding cash.  In these cases, statistical techniques can be used to measure the magnitude and likelihood of a transgression.  In other cases, inconsistencies between what the other spouse observed and what financial data shows could be evidence of a spouse not reporting all earned cash.  A full forensic analysis of a small business may be necessary to determine the correct income.

Holdings analytics

Sudden increases in account value or unexplained deposits could indicate alternative income sources that otherwise had been hidden, or it could indicate that someone is indebted to the spouse and has reimbursed part of that debt.  Especially in these cases, a line-by-line transaction analysis should be conducted. 

Likewise, the divorce financial analyst should identify transactions involving unknown accounts that are excluded from interrogatories.  Transfers to unknown accounts could be evidence of a transfer to a hidden account with hidden value.  The bank with the hidden account could be subpoenaed to attempt to match social security numbers with the spouse.  If the spouse does not own the account, the spouse can be asked (under oath, if needed) to explain the unknown account.

Debt analytics

Debt can be a means to hide cash or assets if the spouse receives and hides the equity that was gained in exchange for the debt.  This is not a common transgression because the value of the debt typically exceeds the value of the received equity.  When this occurs, it typically relates to nefarious behavior such as adultery, gambling or drug use.  If either the debt or equity is disclosed, the existence of the other can be deducted.  Either way, the spouse would be hiding a net-negative balance of debt and assets.

Expenditure analytics

Expenditures can be a means to transfer value from an unhidden holding to a hidden holding that could involve cash, goods or services.  In these cases, the equity of the expenditure would have residual value that the spouse could monetize at a later date.

One of the most common transgressions involves siphoning and stashing extra cash.  A person may withdraw more cash from a bank than they need for expenditures.  Very few transactions involve direct cash payments, so an analyst can perform statistical analysis to quantify when and how much behavior changed.  A change of behavior after the date of separation draws suspicion to the rationale for the change of behavior and provides a basis to question the spouse. 

A spouse also can collect and hide cash by cashing all or part of checks rather than depositing their full value.  Banks can provide copies of all teller transactions for a given account.

Some merchants, such as grocery stores and pharmacies, allow customers to pay extra with a credit card and provide the differential in the form of cash to the client.  In these cases, the aggregate monthly transaction values for these types of merchants can be analyzed statistically to identify likely behavioral changes.  Copies of receipts can be requested as part of the discovery process.

Another common transgression involves hiding equity in hidden goods or services that can be monetized in the future.  For example, a customer can purchase merchant debit cards at a grocery store, pharmacy or convenience station.  As another example, a spouse can purchase a commodity like gold or a collectible, hide that asset, and sell it in the future.  Alternatively, the spouse can buy a good or a service for another person with the intent to get reimbursed at a later date.  In all of these cases, analysis could involve assessing behavior changes statistically, reviewing receipts, or critiquing types of suspicious transactions (who/what/when/how much/why).

Less common but more significant, a spouse may have a full lifecycle of financial activity hidden.  In some cases, the tip-off is a credit card account shown on a credit report that is excluded from interrogatories and not paid by any banks included in interrogatories.  Expenditures from a credit card require at least a minimum payment every month, so a lack of payments to this card from a known holding (bank) could indicate that a bank with hidden equity exists.   Another tip-off would be no accounting for certain expenditures.   A spending analysis can identify missing necessary costs, like utilities and insurance. 

Recovering Hidden Assets

An attorney plays a significant role to recover hidden assets.  Baron Analytics works with firm’s like Briglia Hundly that have a strong history of obtaining thorough discovery, understanding forensic evidence, and knowing how to litigate to recover hidden assets.  Attorney’s roles include:

• Leveraging legal remedies and sanctions
• Conducting comprehensive financial discovery
• Utilizing interrogatories and depositions

Summary

Many spouses navigate the settlement process believing that their spouse has been hiding cash or assets.  This feeling is understandable because the opportunities to hide equity are so many and the means to find and prove hidden equity can be incredibly complex.  By using best practices and trained skills, a divorce financial analyst can help determine the likelihood that equity has been hidden and advise a client regarding the effort (cost) and likelihood of finding whatever has been hidden.  While most legal teams are not equipped to do the necessary analysis to find hidden assets, a legal team using a trained divorce financial analyst is.