Inflation has been a hot topic recently. Brian Walters and Jake Gilbreath have received many questions about what, if any, effects inflation will have on family law proceedings. In this podcast episode, our partners address frequently asked questions by current and prospective clients and how inflation can affect divorce or child support matters.
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Brian Walters: All right, everybody. Welcome back to For Better, Worse, or Divorce. I’m Brian Walters and I’m here with Jake Gilbreath. In this episode, we’ll discuss how inflation might affect your case or your situation. I think for most people that’s going to affect a divorce. So we’ll get into that in a minute. But it actually can affect child issues in particular, child support because we have a situation where the law about child support setting was written at a time when there was low inflation, which has been the last 40 years. And it essentially resets every five years, but it only resets going forward and it resets 18 months ago, I think is when it last bumped up.
And so if we have a period of high inflation around 10% a year, we’re in March of 2022 when we’re recording this. If that were to continue, let’s say for the next three and a half years. While it’s going by the end of that time period, the child support obligation would be compounding interest. I mean 40, maybe 45% less than it should be. And then it would suddenly jump at 45% or 40%, which depending on which side of the paying and receiving of child support you’re on, can make a big difference. So I don’t think anybody anticipated this. And of course we don’t know if the inflation’s going to go down or potentially deflation, but that’s the one that jumps out at me about children. Any thoughts about that, Jake?
Jake Gilbreath: Yeah, I mean it just goes down to child support and an imperfect system, and it’s an imperfect system in Texas. It’s probably an imperfect system in other states as well. I do think other states probably put more thoughts the right word, but more factors into their child support. We do with a lot of cases that we see out of state orders or we’re litigating. There’s situations going on in a different state like California and then we’re looking at it from the Texas perspective. But child support in Texas is relatively straightforward.
If you follow the guidelines in the Texas Family Code, it’s a relatively straightforward process. We look at the obligor, so that’s the non-custodial parents, the obligor’s net resources per month and there’s charts and everything. There are calculators that we use for that. And then you apply a percentage for that. One child is 20%, two children is 25%, or if you got one child with this parent and another child with another parent, and that affects your percentages.
But when you hear people say guideline child support, they’re guidelines in the Texas Family Code. And the family code does allow for our court to go outside the guideline, but there has to be specific reasons for it that are set forth in the family code. And frankly, most courts don’t do that except for in circumstances with special needs for a child. I think it’s pretty well known that Travis County and we’re pretty open about telling people about this. Of all the counties in the state of Texas, Travis County is the one that’s going to be most likely to go outside the guidelines. But even Travis County Family Code is what it is. And so if it’s that simplistic of a formula, we just look at the obligor’s net resources, which also can provide some bizarre results.
What if a parent that has quote unquote custody of the child, remember custody’s not really a legal term, but the parent that has the right to determine the primary residence of the child. Let’s say he or she makes three quarters of a million dollars a year and the person that doesn’t have custody of the child makes $80,000 a year, he or she still pays child support to the person that makes seven times the income, 10 times the income, whatever. Yeah, that’s how the code works. That’s an even different topic. But this is just like you’re saying Brian, the economy changes so rapidly, there’s inflation going on, of course gas prices are what they’re right now and the Family Code’s still the same. Here’s your guidelines. And then I guess talk a little bit about the cap if you want to, Brian, because the cap does go up like you said. I think it was throughout 18 months last time. But what’s the cap? And it’s certainly not keeping up with inflation.
Brian Walters: Right. And that that’s actually more of a reference to the cap is what I was saying. That’s what gets changed every five years. And that means, in other words, if you make above a certain amount. Right now that’s around $150,000 a year, but you’re going to pay your 20% or 25%, whatever the number is, depending on the number of kids, but not more than that. So if you person making $150,000 would pay the same amount of child support as someone making $500,000. But that cap will be reset based on historical inflation every five years. And so this again, is kind of a boon for somebody who’s got their child support set recently. They’re at or above the cap. And then we go through a period of high inflation, which usually means their wages also inflate quickly. And then they’re essentially underpaying child support as to where they should be until it resets.
And you can go back to court and ask for the court to make a change in the child support amount based on a change in circumstances, which could be the inflation, but the court’s actually still required to fall back on those presumptions and that cap. And so I think it would be difficult for a court to really modify it. I think the person maybe who would get caught in that would be somebody who is a little bit under the cap, let’s say making 120 a year. A year or two of inflation, their salary gets bumped to 150, then they could be hauled back into court I think pretty easily at that point and get it bumped up to that. But above that, I think it’s an issue.
Jake Gilbreath: We’ll talk about. I was going to say to sort of talk about the divorce context. Anytime there’s changes to the economy, significant changes to the economy, I mean not only is it a stressor on the marriage, but also is something that we have to take into consideration and just affects the realities of somebody’s financial situation, their marital estate and how we divide it up.
Brian Walters: Yeah, exactly. The only other thing I could think of about kids and then we’ll move on to divorces, is if you have a college fund that you put aside and you think, well hey, I need $120,000 to get them through UT for four years. That’s probably way optimistic.
So that’s probably going to inflate. Actually college cost have historically inflated about twice as fast as the overall prices and wages. But that’ll probably be even more. Same thing if you’ve committed to or considering committing to what you don’t have to do under our law. But some people voluntarily do it, committing to an obligation to pay for college or post-secondary school. Be careful about that, especially in this period of inflation, because what you think may be a manageable obligation may not be.
Jake Gilbreath: The court can’t order, unless there is a disability, the court can’t order past the age of 18 or when the child graduates high school, whichever one occurs later, they can’t order support. But it is true that people talk about, I mean you should think about it. What are we going to do for college for our child? I do generally tell people, let’s not be court ordered to pay for college. This is one of the those reasons.
There’s other reasons why you wouldn’t want to be court-ordered to pay for college there. Something may come up in your child’s life where maybe you don’t want to pay for that college, that particular college and be court-ordered to do it. But yeah, the cost of it alone. You don’t know what your circumstances and the financial circumstances are going to be years from there, from whenever you sign your court order. So that is something important to think about, or if we’re both funding a 529. When all my kids were born, we sat down with the financial planner and opened up 529s and then got really, really depressed to see how much they projected college is going to cost for each child and then just went back to the office and started working harder.
So that goes into the factor, and then it goes into the property too. Because when you divide up an estate, even if somebody’s not being court ordered to pay for college, it’s a pretty routine discussion to have. Particularly we have kids in, you’re going through divorce and you have kids in high school. It’s a fair conversation to have, even though it may not be court ordered. It’s a fair conversation to have saying, “How are we going to pay for our kid’s college?” Or if you got a teenager, “How are we going to pay for their car?” And then just the looking at a financial situation as a whole and considering the economy with doing that. So yeah, talk about that, Brian, how you see rapidly changing economic situations that affect your divorces.
Brian Walters: So I know it’s been 40 years since we’ve had inflation, so let’s define our terms briefly. I probably should done that at the beginning. But inflation is just an overall average increase in prices and that’s caused as the Nobel Prize winning economist, Milton Friedman said, “It’s always and everywhere a monetary phenomenon.” In other words, if a government, if suddenly overnight prints twice as many dollars, then each dollar is worth half of what it was the day before, right? Because they’re twice as many dollars and nothing changed other than there’s more paper floating around. It’s more a little more complicated than that. There’s all kinds of, that’s what the Federal Reserve is for, but it’s essentially that. But it doesn’t affect all prices and wages equally. Right? So for example, we’ve all seen gasoline prices go up a lot where maybe, I don’t know, pick something else. Corn prices have not, let’s say.
So it’s not like it’s 10, everything goes up, but it lockstep 10%. And it tends to be really unpopular because your wages also increase, your pay, but that tends to be much slower than the increase in prices. And so you feel accurately poorer. And what actually occurs is that asset owners, people who own assets like real estate or stocks, bonds, businesses, those kind of things, those assets tend to inflate. And so your net worth increases during a period of inflation. But if you’re a person that’s just living paycheck to paycheck without assets, that really sucks, right? Because you don’t have any assets that are increasing in value and your wages are chasing behind the cost of living. So it tends to be an unpopular situation, which is why we haven’t had it in 40 years, but here it is.
So a couple of things I think to think about in a divorce. One is the tax, certain tax affected investments. So those are typically retirement accounts, whether they be pensions or 401(k)s or various types of IRAs. So as it depends on the particular one, but let’s take a 401(k), a standard 401(k) as an example. I know they’ve complicated things now with Roth 401s and regular IRAs and Roth IRAs and everything, but let’s just take a typical 401(k). So you put in pre-tax dollars into that and then it grows. Well, it changes with the market, but it tends to grow without being taxed as it grows each year. And then of course when you take it out, you’re going to be taxed. And so when inflation in the market is overall increasing just a couple of percentages at points a year, that’s not a very big deal. But if you do have high inflation, let’s say you have a million dollars in a 401(k), and if you’ve got inflation at 10%, the market could act differently, but in general you’re going to have pressure on it to increase 10%.
Now you’re $100,000 a year that’s growing. Where if you had that money in a different type of investment, you might have to be paying taxes on that $100,000 every year. And so during periods of low inflation, I’ve not seen people overly concerned about, “Hey, I want the 401(k) because it’s going to grow.” Some people, yes, but not that much. But I think during a period of inflation, I’d be much more interested in that asset. And it’s a whole other debate we can have elsewhere about whether you should tax effect that anyway. But especially during these periods of time, that would be interesting to me. And then generally, what’s been the safest investment over time is real estate because it’s less subject to a stock market, which can be pretty volatile. And most inflationary periods, if not all of them ended in recession.
We don’t know when or if that’s going to occur or how severe it’s going to be, but it’s very likely because it’s just happens. It’s kind of a hangover from a money printing party and that’s the payback. So I would think that you’d be real interested in the real estate assets if you’re in a middle of a period of inflation. The other thing that comes to mind is just valuing assets. A lot of times we’ll walk into a mediation a year into a divorce and we’ll say, “All right, well what’s the house worth?” And Harris County Appraisal District says it’s worth $1.3 million. In a period of low inflation or low housing price changes, that’s probably pretty close to correct. But in a period of rapid inflation overall and of homes in particular, which is something we’re in now again, that can be a problem. Maybe it’s worth 1.6. Somebody’s going to get a $300,000 gift if you’re not careful about that. What are your thoughts about that?
Jake Gilbreath: Well, it all goes down to, and I mean housing, we’ve talked about on other podcasts, but that’s just a great example too, right? It’s like forget HCA or TCA or DCA or wherever you’re looking at. I mean, you could have a real estate appraisal done by an expert who does this for a living and it’s three months old and you’re thinking, well, this thing is different three months later. The appraisers I’ve talked to say it’s really hard to come up with comps and reasonable value in this market. That’s something to do with inflation, something to do with the housing market. When people call, said, “Well, family codes, family law is easy. Right? You just put the assets up on the spreadsheet, you divide them, what’s the big deal?” And you can approach it that way. And if you’re not a skilled lawyer that doesn’t know what they’re doing or you’re trying to represent yourself, which I get, but you can make really substantial errors by doing that.
I mean, yeah, so retirement’s a perfect example. Inflation aside, you could put $100,000. One person gets $100,000 in cash, person gets a $100,000 in a 401(k). And if you’re not thinking about it’s like, well, it all looks the same on a spreadsheet. Well, $100,000 in cash is way different than $100,000 in a 401(k). And so you have that conversation with a client and that’s when you reference tax effective, Brian. It’s like because 401(k) is going to be pre-tax dollars, cash is sitting there as post tax dollars. But of course you go 401(k)s and an investment account and it’s all stuff that … It just needs to have a conversation. The simplest way of doing it is just taking every single type of light asset and dividing it the same.
If we have a house, sell the house, split it. If we’ve got 401(k)s, just even it out to where the 401(k)s are divided evenly between the spouses. Brokers accounts, just to buy them down the middle in kind and pro rata. But some people are more risk averse. Some people want to take on particular types of assets. And there just needs to be the conversations you can have. And that’s what you’re paying your lawyer to do, is to have that conversation to think about those things. Think about the impact of inflation. Think about the impact of the housing market, tax affecting all that stuff. And then ultimately the client makes the decision, right? But the divorce lawyer can do is not have that conversation, have the simplistic approach. Roll into mediation, talk to the client the day of mediation about what we’re going to do and not having these longer conversations about the overall impact that these things, these various factors can have on it. It can make a big difference. I mean, just like you said, you could easily make a three, $400,000 mistake or gift to the other side just by not having that two hour meeting with your divorce lawyer before mediation or before going to trial or showing up at final trial not being prepared to explain those to a judge. I mean, it’s not the judge’s job to know, to sit there and think about tax affecting and inflation, housing market and all stuff. That’s not her job. Her job is to listen to the lawyers and then make a ruling based on what’s presented to her. So it all just goes to show, you can make substantial errors by just not having the conversation that we’re having right now with clients.
Brian Walters: Yeah, exactly. The other one that comes to mind in a divorce is spousal maintenance or a lot of people, alimony. Now, that’s pretty rare in Texas, even less common now that the federal government took away the tax arbitrage you could use a couple years ago. But it still can be there. And it’s again, base, it’s got caps. It’s got things that are, again, I think imagined at a time when everybody just thought inflation would be two or 3% forever.
And so if you ask for it, or even if you happen to agree to it, which again isn’t that common these days, you need to really think about it, especially if it’s a longer period of time, three, four, five years, that say it’s 5,000 a month that you were awarded or agreed to. That’s at 10% inflation by the end of that five years. Again, that’s worth less than half of what it was when it began. That’s how quickly inflation eats away at things. So that’s another thing to think about is we aren’t assured of living in that situation, so we will see what happens. But that’s the one that comes to mind. Anything else or on that?
Jake Gilbreath: I mean, it’s just coming up with a child custody agreement. We put in place orders trying to predict the future as best as we can. And it’s never perfect, but you should have the information and making the decision, and inflation is just one of the many things that’s you should take into consideration. So I would think that wraps up that topic. So thanks for everyone listening today. If you like what you heard today, do us a favor and leave us a review like always. And we appreciate all the feedback we get. This helps us better our podcast. We’re always looking for suggestions on topics or what you all want to hear about or what you don’t want to hear about. And so if you have any questions or suggestions, please reach out to us at podcast@waltersgilbreath.com. And I’m Jake Gilbreath.
Brian Walters: And I’m Brian Walters. Thanks again.
Jake Gilbreath: All right. Thank you all.
For information about the topics covered in today’s episode and more, you can visit our website at waltersgilbreath.com. Thanks for tuning in to today’s episode of For Better, Worse, or Divorce, where we post new episodes every first and third Wednesday. Do you have a topic you want discussed or question for our hosts? Email us at podcast@waltersgilbreath.com. Thanks for listening. Until next time.
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