Speculating on Stock Options and Child Support: Long on Income and Short on Value (and Theory) - a Jurisprudential Attempt at a Butterfly Straddle?

• Publication year: 2021
• Citation: Vol. 82

82 Nebraska L. Rev. 947. Speculating on Stock Options and Child Support: Long on Income and Short on Value (and Theory) - A Jurisprudential Attempt at a Butterfly Straddle?

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David S. Rosettenstein*

Speculating on Stock Options and Child Support: Long on Income and Short on Value (and Theory) - A Jurisprudential Attempt at a Butterfly Straddle?

TABLE OF CONTENTS

I. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . 948
II. The Foundations of the Child Support Award . . . . . . . . . . 951
A. Interests . . . . . . . . . . . . . . . . . . . . . . . . . . 951
B. Objectives . . . . . . . . . . . . . . . . . . . . . . . . . 953
C. The Search for a Formula . . . . . . . . . . . . . . . . . . 956
D. Deviation from the Formula . . . . . . . . . . . . . . . . . 958
E. Defining Income . . . . . . . . . . . . . . . . . . . . . . . 961
F. Tax Considerations . . . . . . . . . . . . . . . . . . . . . 966
G. Modification . . . . . . . . . . . . . . . . . . . . . . . . 967
III. The Nature of Stock Options . . . . . . . . . . . . . . . . . . 968
A. The Structure of the Grant . . . . . . . . . . . . . . . . . 968
B. The Rationale for the Grant and the Concept of
Income . . . . . . . . . . . . . . . . . . . . . . . . . . . 970
C. Income Versus Value . . . . . . . . . . . . . . . . . . . . . 975
IV. The Cases . . . . . . . . . . . . . . . . . . . . . . . . . . . 981
A. Introduction . . . . . . . . . . . . . . . . . . . . . . . . 981
B. Interests to be Advanced . . . . . . . . . . . . . . . . . . 982
C. Options As "Income" . . . . . . . . . . . . . . . . . . . . . 982
D. Value and "Income" . . . . . . . . . . . . . . . . . . . . . 993
E. Annualizing the "Income" . . . . . . . . . . . . . . . . . . 995
F. Obligations Beyond Income . . . . . . . . . . . . . . . . . . 999
V. The Cases and the ALI Perspective . . . . . . . . . . . . . . . 1002
VI. Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . 1004

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I. INTRODUCTION

A butterfly straddle is an investment hedging structure which, if perfectly executed and transaction cost free, enables the investor to end up at some later point in time in exactly the same situation as he or she started out in.(fn1) The legal treatment of stock options in the context of formulating child support awards has all the hallmarks of a

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jurisprudential attempt at a butterfly straddle. On the surface, the courts appear to apply a conventional analysis to determine the support obligation. However, anything more than a superficial analysis suggests that by and large the goal is to move the litigation along, while as far as possible allowing the jurisprudence to remain in the same situation it started out in, that is, without having to come to grips with the fundamental financial and legal characteristics of stock options. The result is that where reliance is placed upon "income" from stock options, any analysis underpinning the award of child support frequently tends to be flawed in one or more respects.

It would seem self-evident that a goal of a child support order is to provide support for a child. Behind this goal lies a broad and tangled spectrum of objectives.(fn2) The purpose of the present Article is to examine the relationship between the achievement of these objectives and judicial efforts to make child support orders where a significant component of the resources used to determine the size of the award is in the form of stock options. The analysis is complicated by the fact that stock options are themselves inherently complex instruments. This complexity leads to a variety of problems. For example, it is difficult to characterize the role options play in a family's domestic economy. In turn, this leads to an inability to assign to options a convenient analytical paradigm such as "asset" or "income."(fn3) This, coupled with the technical character of options, makes it problematic

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to identify a monetary amount to be attributed to the options for the purposes of calculating child support. This process, in turn, occurs in a context where it becomes necessary understand whether, in reality, value ever will be able to be extracted from the option, or indeed, even if value can be extracted, whether it is appropriate to do so at any particular moment in time.

The Article commences with a brief overview of the objectives that can underpin a child support obligation. For this purpose, the Article will rely heavily on the analysis contained in the American Law Institute's "Principles of the Law of Family Dissolution,"(fn4) which reflect the vast majority of themes found scattered in buckshot fashion through the jurisprudence of the various states. This is followed by to a similarly brief look at aspects of the conceptual underpinnings of the formulae used to calculate child support, again relying very heavily on the Principles. This leads to a consideration of the resources, actual or imputed, which may be looked to in order to determine the amount of any award and to satisfy the obligation. No effort is made to be comprehensive. Rather, the goal is to reflect the pressures and considerations that may come to bear on a child support determination in the context of a family's domestic economy where options are present-in particular as these considerations impact the triangulated tensions of the interests of the child and those of the parents inter se.

The Article then turns to the nature of options and how the characteristics of options tend to generate confusion when it comes to relying on options to provide "income" in formulating a child support award. In particular, the Article considers issues like the potentially protracted vesting period of option, the purpose behind the grant and the vesting period, the ability to defer the benefit, the varied and oftentimes inappropriate techniques used to value options, and the impact of these techniques, illiquidity issues and other problems associated with actually extracting any nominal value from the options.

The next Part of the Article considers the decided cases as they grapple with the theoretical and practical concerns just outlined. The treatment emerges as somewhat fragmentary, in part precisely because jurisdictions have been unable, or unwilling, to attempt to develop a comprehensive jurisprudence in the area.

The final Part of the Article attempts, with some broad brush strokes, to suggest considerations which might reduce the risk of judicial treatments that are theoretically untenable or which produce results which are inappropriate or unrealistic.

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II. THE FOUNDATIONS OF THE CHILD SUPPORT AWARD

The American Law Institute (ALI) Principles (hereinafter the "Principles" or "ALI"), inter alia, consider that a child support order should seek to ensure that each child has a minimum decent standard of living, and a standard of living that is not grossly inferior to that of either parent, while ensuring that the child does not suffer a loss of important life opportunities that the parents are able to provide without undue hardship to themselves or their other dependents. Also, both residential and non-residential parents are to be treated fairly and the rules should not discourage the labor force participation of either parent and should take into account the child's need for care. The rules should reflect popular understanding of the duties of parents to the child and to each other.(fn5) The Principles also consider the administrative ramifications of any child support order and suggest that the rule should be readily comprehensible, and that awards should be enforceable and modifiable as the circumstances of the parties change and that the design and implementation of the rules should minimize conflict between the parents.(fn6)

A. Interests

The Principles acknowledge that the considerations that can be brought to bear on the issue of child support reflect competing values and interests. The entities with interests to be advanced are society, the child, the residential parent, and the non-residential parent.(fn7) From society's point of view, beyond the issue of avoiding having the child as a public charge, there is the need to advance the welfare of the next generation of citizens by providing for its care, nutrition and education. (fn8) From the child's perspective, ideally, he or she should emerge from the divorce economically unharmed. Ordinarily, this is not going to be possible as the fragmentation of a common household leads to economic inefficiencies. Accordingly, unless it is desired to relatively disadvantage the non-residential parent, to compensate for these inefficiencies the most any award scheme can plan to achieve, in the absence of a surplus of resources, is that the child's economic interests do not suffer disproportionately to those of other family members.(fn9) The Principles also acknowledge that, beyond a consumption based analysis, the child can lay claim to support for life opportunities, primarily education, when the parents can afford to provide them.(fn10)

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One or other of the parents may have a relatively higher income. The Principles accept the proposition that such a parent has a legitimate interest in retaining the fruits of his or her labors, which the Principles accept translates into a proposition that that parent is entitled to enjoy a relatively higher standard of living. In the ALI's view, this perspective enjoys "considerable, although not unanimous, support in American culture" and is implicitly incorporated into all existing child and spousal support rules.(fn11) But, precisely how much better off the advantaged parent is entitled to be emerges as the consequence of balancing the competing interests impacting child support awards. Unlike the ALI's formulaic approach when it comes to property division and compensatory awards,(fn12) there is...