Marital Expenses and Executive Compensation: How a Business Owner's Income Is Determined and Pay Cuts After Separation

Hello, I'm Noriaki Asato, Representative Attorney at LegalAgent.

The amount of marital expenses, the living costs paid during separation, is in most cases determined by applying both spouses' annual incomes to the family court's calculation table. For a company employee, the amount on the withholding tax statement is simply the annual income, and there is little room for dispute. By contrast, the owner-manager of a family company is in a position to effectively set the amount of his or her own executive compensation. If the compensation is reduced after separation, the amount on the withholding tax statement goes down. The question is whether that reduced amount can be used as is in calculating marital expenses.

Money that a business owner receives from the company is not limited to executive compensation. Once dividends, rent for a home or land leased to the company, and the cost of vehicles or company housing borne by the company are added, the amount on the withholding tax statement and the actual standard of living no longer match.

The Obligation to Share Marital Expenses and Determination of Income Under the Calculation Table

Article 760 of the Civil Code (Japanese) provides that spouses "shall share the expenses arising from marriage, taking into consideration their assets, income, and all other circumstances." Marital expenses include the living expenses of the spouses and their minor children, medical expenses, the children's education expenses, and so on. This obligation to share is understood as a duty of support that guarantees the other spouse a standard of living equal to one's own, and it does not end even during separation as long as the marriage continues. If the spouses cannot reach agreement, the amount to be shared is decided through family court conciliation or adjudication.

The court's standard calculation method and calculation table are used to calculate the amount. The current calculation table was published on December 23, 2019 as a report of judicial research by judges; it follows the approach of the former calculation table published in 2003 while updating the underlying statistical data. According to the explanatory materials for the calculation table, annual income is determined as follows:

• Salaried employees: the "amount paid" on the withholding tax statement (the amount before deductions)
• Self-employed persons: the "taxable income" on the final tax return, plus expenses not actually paid out (the basic deduction, the blue-form return deduction, salaries for family employees that were not actually paid, etc.)

The amounts in the calculation table assume standard circumstances, and it is explained that a calculation exceeding the range of the table is needed only where there are special circumstances under which relying on the table would be grossly unfair.

Income is not determined solely by the actual amount earned. Case law has recognized that, even if the obligor is unemployed, if he or she has the latent ability to work and earn income, there is a probability of earning a certain income, taking into account past income and other factors (Osaka Family Court adjudication, July 18, 2014, Hanrei Times No. 1416, p. 385).

As to the period from which marital expenses can be claimed, practice is said to often treat the time of the claim as the starting point. Expressing an intention to claim promptly after separation, by content-certified mail or the like, provides a basis for seeking sharing from that point. Even after divorce, unpaid past marital expenses can be settled as part of the division of property (Supreme Court judgment, November 14, 1978, Minshu Vol. 32, No. 8, p. 1529). Division of property including the company's own shares is covered in A Business Owner's Divorce and Division of Company Shares as Property.

Against reluctance to produce documents, procedures were put in place by the 2024 amendments to the Civil Code and related laws. Article 152-2, paragraph 1 of the Domestic Relations Case Procedure Act (Japanese) provides that, in adjudication cases such as those concerning dispositions on the sharing of marital expenses, the family court may order a party to disclose information on the status of his or her income and assets. Failure to disclose without justifiable grounds, or disclosure of false information, is subject to a non-penal fine of up to JPY 100,000 (paragraph 3 of the same Article).

How Executive Compensation Is Set, and Tax Constraints on Mid-Year Reductions

Unless the articles of incorporation provide for it, the amount of executive compensation is determined by resolution of the shareholders' meeting (Article 361, paragraph 1 of the Companies Act (Japanese)). In practice, it is common for the shareholders' meeting to set a ceiling on the total amount and to leave the allocation to each director to the board of directors or the representative director. In a family company where the owner holds a majority of the voting rights, both the shareholders' meeting resolution and the board resolution follow the owner's wishes, so the owner is effectively setting his or her own compensation.

On the other hand, freely changing executive compensation in the middle of a fiscal year is subject to tax constraints. Article 34, paragraph 1 of the Corporation Tax Act (Japanese) provides that, of the remuneration paid to officers, amounts that do not qualify as fixed periodic remuneration or the like are not deductible. Article 69, paragraph 1, item 1 of the Order for Enforcement of the same Act limits the cases in which a revision of fixed periodic remuneration is permitted to the following three:

• A revision made within three months from the start of the fiscal year (an ordinary revision made at a set time each year)
• A revision due to unavoidable circumstances (extraordinary revision grounds), such as a change in the officer's position in the organization or a material change in his or her duties
• A reduction due to reasons such as a significant deterioration in the company's business condition (business deterioration revision grounds)

A mid-year reduction on account of separation or divorce negotiations falls under none of these. In that case, part of the executive compensation for that fiscal year may become non-deductible, and if it is not deductible, the company's tax burden increases by that amount.

How a Business Owner's Income Is Determined

In calculating marital expenses for a business owner, executive compensation is treated as salary income, and the amount paid on the withholding tax statement is the starting point. Disputes arise where that amount has fallen after separation, and where money flows from the company in addition to compensation.

Regarding a reduction in compensation after separation, the Osaka High Court decision of March 30, 2007 presumed that the husband, as representative director, was in a position to effectively set his own compensation. On that basis, it inferred that two reductions made around the time of the conciliation in which the wife sought marital expenses were made for the purpose of keeping the amount of marital expenses low, and calculated the amount based on the income before the reductions. When two factors are present, namely that the timing of the reduction coincides with the claim for marital expenses or the filing for conciliation, and that the obligor is in a position to set his or her own compensation, the reduced amount is unlikely to be adopted as is.

Conversely, where the company's performance has actually deteriorated and compensation was reduced, I think the principle is that the calculation is based on the reduced income. To show this, the business owner will need materials linking the deterioration in performance to the decision to reduce, such as minutes of the shareholders' meeting or board meeting that decided the reduction, financial statements and monthly trial balances before and after the reduction, and records of discussions with financial institutions on repayment terms. The tax constraints described above also serve as a factor in the assessment. A reduction that can also be explained for tax purposes as falling under the business deterioration revision grounds supports the reasonableness of the reduction, whereas a mid-year reduction that does not meet the tax requirements is likely to work in the direction of strengthening suspicion that it was made for reasons other than business performance.

Regarding inflows other than compensation, the Osaka High Court decision of July 12, 2018 treated dividends received by a husband who managed a company as equivalent to salary income, on the grounds that they were merely paid under the name of dividends after consultation with a tax accountant. It also treated the salary paid by the company to the wife while they lived together as equivalent to compensation to the husband. In this decision, the court held that it was not appropriate to treat only the executive compensation as income, because the combination of the husband's executive compensation, dividends, pension, and real estate income had been the source of living expenses during the marriage.

Under the same reasoning, rent received by the business owner for leasing personally owned real estate to the company, and private expenses paid as company expenses, may also be sought to be added to income if they in fact supported the couple's life during the marriage. Company housing rent, vehicle costs, family mobile phone charges, and the like borne by the company become issues. The party claiming the amount will show concretely, from bank passbooks and credit card statements, where the living expenses came from while the couple lived together.

Even if profits accumulate in the company, those profits are the company's property and, as a rule, do not constitute the business owner's personal income. However, where compensation is kept low, profits are retained in the company, and company funds are used for living expenses, it may be argued that the distinction between the company and the individual lacks substance, and that part of the company's profits should be treated as equivalent to the owner's income.

Where the spouse receives compensation or a salary as an officer or employee of the company, care is also needed regarding treatment after separation. If the spouse actually works, that salary is included in the calculation as the claiming party's income and works to lower the amount to be shared. If payments to the spouse are stopped upon separation, the claiming party's income decreases and the amount to be shared increases accordingly. There are also constraints on the procedures for stopping payment. A director can be dismissed at any time by resolution of the shareholders' meeting, but absent justifiable grounds, the company may be claimed against for damages arising from the dismissal (Article 339 of the Companies Act). For an employee, a dismissal is invalid if it lacks objectively reasonable grounds and is not considered appropriate in light of socially accepted norms (Article 16 of the Labor Contracts Act (Japanese)). Separation or divorce negotiations themselves are circumstances unrelated to the person's duties, so it is hard to see them alone constituting justifiable grounds for dismissal of a director or reasonable grounds for dismissal of an employee. Conversely, if the salary is nominal with no actual work, it may be treated as equivalent to the business owner's own income (see the Osaka High Court decision of July 12, 2018 mentioned above).

For business owners receiving high executive compensation, treatment when income exceeds the range of the calculation table also becomes an issue. The vertical axis of the calculation table goes up to an annual income of JPY 20 million for salaried employees and JPY 15.67 million for self-employed persons. The calculation method when income exceeds these figures is not uniform; it is determined case by case based on the standard of living during cohabitation and the status of assets. The business owner will show, using household financial records, that much of the portion above the ceiling went into savings, while the claiming party will show that the standard of living during cohabitation exceeded the result calculated at the ceiling.