Income - Investment, Dividends & Interest

Division of Stock Options

Investment income is a broad category that includes income from a variety of sources, with the common connection being that it is money received due to the ownership of an income-generating asset, as opposed to wages, which are the fruits of one’s own labor.

Simply put, if you invest money and earn capital gains, interest, or dividends, those payments are included as income. Don't forget that during an initial dissolution, accounts tend to be divided somewhat equally. So unless a spouse has substantial separate property investments, both spouses should initially start out with comparable investments, so their investment income will likely be somewhat of a wash.

Capital Gains as Income

Capital gains counts as income for purposes of child support, C.R.S. 14-10-115(5)(a)(I)(N), and maintenance, C.R.S. 14-10-114(8)(C)(I)(N).

In determining capital gains, courts must deduct the taxes paid (which is, itself, a deviation from how wages are treated, where gross, pretax income is used). In re Marriage of Bregar, 952 P.2d 783 (Colo.App. 1997). In Bregar, one party had gross capital gains of $322,000 over a two-year period, from which he paid $77,000 in capital gains taxes.

The Bregar court held: “we conclude that, in determining the amount of income which the sales proceeds could reasonably be expected to generate, the district court erred in failing to deduct the payment of capital gains taxes. In particular, the court should have calculated the reasonably expected income from each year's sales proceeds from the time husband received them until he actually paid taxes on his capital gains. It then should have calculated the reasonably expected income on the amounts remaining after the date of each tax payment.” Bregar, 952 P.2d at 787.

Another issue with capital gains is the timeframe for averaging the gain. In In re: Marriage of Zisch, 967 P.2d 199 (Colo.App. 1998), in November 1996 one party received $260,000 in capital gains from the sale of stock. The trial court treated it as income spread over his projected lifetime, but the Court of Appeals reversed. The entire gain would count as income for 1996, the calendar year in which it was received. Then, in future years, a reasonable rate of return on the principal would count as income.

“We conclude that when a court presented with a motion to modify child support must determine how to treat a capital gain received by the obligor after entry of the original child support order, the court should initially include the amount of the gain as a component of the recipient's gross income for the year in which the gain was received.” Zisch 967 P.2d at 202.

The Zisch court noted the lack of clear guidance on how to average income, and taking Zisch literally, the gain does not count for 12 months after receipt, but in the calendar year it was received. This would suggest if a party received a gain in December, and the other party learned of it a month later, in January, and filed a motion to modify support the same month, the original capital gain would not count as income, as it was received the prior year. Seems an odd result, and the author has had success persuading courts to count income in a 12-month period from date of receipt, not simply the January-December calendar year.

Capital gains which accrued prior to dissolution do not count as income when the asset is sold post-dissolution. In re: Marriage of Upson, 991 P.2d 341 (Colo.App. 1999). In Upson, a party sold a residence awarded at dissolution, and the court included the entire net gain realized as income in the year it was received, with a caveat: “when considering capital gains from the sale of property awarded in a property division pursuant to a dissolution of marriage, the court shall include in gross income only those capital gains realized from post-property-division appreciation in the property.”

So to use a tax analogy, one’s “basis” in an asset is reset at dissolution, so only gains which accrued after dissolution count as income.

Dividend Income

Dividends count as income for purposes of child support, C.R.S. 14-10-115(5)(a)(I)(F) and maintenance, C.R.S. 14-10-114(8)(C)(I)(F).

Presumably there is nothing ambiguous about this, as the author could find no reported cases where dividends on regular investments appears to have been litigated. (There has been some dispute as to whether dividends in retirement accounts count as income - see the Retirement Income article for a discussion of that topic).

With both dividends and interest, note that at dissolution accounts may be divided somewhat equally. So in the end, both spouses may end up with comparable investments, and therefore have comparable investment income from dividends or interest.

Interest Income

Interest counts as income for purposes of child support, C.R.S. 14-10-115(5)(a)(I)(K) and maintenance, C.R.S. 14-10-114(8)(C)(I)(K).

“Because interest is explicitly listed in [the statute], it is undisputed that the actual interest income generated from the net value of the inheritance is included as gross income.” In re: Interest of A.M.D., 78 P.3d 741, 746 (Colo. 2003).

Moreover, interest counts as income even if it is not realized or withdrawn from the investment. In re: Marriage of Tessmer, 903 P.2d 1194 (Colo.App. 1995). This case discusses interest in the context of retirement accounts, addressed in the Retirement Income article, but the Colorado Supreme Court quoted it favorably for interest in general in In re: Interest of A.M.D., 78 P.3d 741, 746 (Colo. 2003).

Imputed Investment Income

What about a person who uses funds to pay down debt, or distrusts financial institutions so keeps a substantial nest egg in a shoebox, earning nothing? While actual dividend and interest income counts as income, what happens when a person has assets which could be generating income, but is not investing the funds in income-generating accounts? In such cases, the courts will impute a reasonable rate of return on the funds.

When determining a person’s future support obligation, the court should impute to that person a reasonable rate of return on his/her investments. In re: Marriage of Zisch, 967 P.2d 199, 202 (Colo.App. 1998).

A person inherited almost $395,000, with the caveat that about half of it was specifically conditioned upon paying off some debt and conveying some to his parents. The court imputed a reasonable rate of return on the half which the heir had the right to control, even though those funds were put in a combination of poor investments and gifts. In re: Marriage of Armstrong, 831 P.2d 501 (Colo.App. 1992) (Side note - in Armstrong, a 9% rate of return was imputed, but look at the date - the heady days of the early 1990s, when investors could actually count on such returns. These days, rates closer to 3-4% are more common for imputation).

The Colorado Supreme Court concurs, stating: “In addition to actual interest, the trial court may be required to impute interest if the principal is not adequately invested to earn a reasonable rate of return.” In re: Interest of A.M.D., 78 P.3d 741,746 (Colo. 2003), citing Armstrong.

Income can be imputed to an asset even if that asset has already been consumed or spent. In re: Marriage of Laughlin, 932 P.2d 858 (Colo.App. 1997). In that case, a party received $360,000 in capital gains, but spent most of it, including expanding his house and paying off mortgages. “We also reject father's contention that the income imputed to the expended gain was unsupported by the record. While testimony in the record is somewhat unorganized, confusing, and conflicting, the trial court based the imputed sum on the benefit accruing to father from the payoff of the second and third mortgages which, according to father's own testimony, resulted in a cash flow savings to him of $1,200 per month.”

Finally, will a court second-guess the wisdom of an investment, and decide that the funds could be earning more? A potentially important point from Armstrong is not just the imputation of income to money which is not invested, but also to money which is poorly invested! The court noted that the person had invested in in business ventures and investments which  “had not been financially profitable or advisable,” and those poorly-invested funds were imputed a reasonable rate of return. In re: Marriage of Armstrong, 831 P.2d 501 (Colo. App. 1992).

Averaging Variable Payments

What if the payments vary year-by-year? One issue with interest and dividend payments is that they may not be consistent. But just as courts average variable bonus payments over a number of years, the same is done with returns on investment.

Consider a person with investment income which fluctuated significantly over the previous four years from a $1350 loss to a $31,000 gain. The investor sought to have all four years averaged together, while the other party wanted to count just the most recent year, with the $31,000 gain. The court found averaging was appropriate: “in cases such as this in which there is a substantial fluctuation in a parent's income, or some component thereof, the trial court has discretion to consider, or use an average of, past earnings.” In re: Marriage Rice & Foutch, 987 P.2d 947, 950 (Colo.App. 1999), and split the difference by averaging the prior two years.

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