Douglas Whitman was convicted of insider trading from Whitman Capital, the hedge fund he created in 2012. His conviction carried criminal fines of $250,000 and an order to forfeit $935,000, which he later paid in a settlement with the Securities and Exchange Commission (SEC). Two months after his conviction, his wife Quin filed for a legal separation. The issues in Whitman v. Whitman centered on which of them was responsible for paying the various court-ordered fees.

To understand the decision, it is necessary to give a brief overview of California’s community property laws. In essence, these laws hold that property that is acquired during a marriage is presumed to be owned equally by each spouse. However, property that one party owned prior to the marriage is separate property and is not part of the marital estate.

At the time of their separation, the couple’s largest asset was Whitman Capital, valued at approximately $31.6 million. Douglas claimed that his hedge fund was initially funded by $900,000 of his separate property. After his initial investment, Douglas continued to funnel his compensation back into Whitman Capital. He agreed that these funds were community property. Thus, a key issue at trial was whether the initial investment really was his separate property. He claimed that his initial $900,000 investment was now worth nearly $18 million.

During the couple’s divorce proceeding, San Mateo Superior Court Judge Elizabeth M. Hill ruled that Douglas’s initial separate property investment in the hedge fund was only $300,000, not the $900,000 he claimed. Hill also found that Douglas failed to prove he retained any separate property interest in the hedge fund at the time of his divorce, despite his initial capital investment, because he withdrew $900,000 less than a year after the initial investment was made. Thus, Hill said, he “exhausted any separate property interest he had in the fund.”

Judge Hill also said the community was not responsible for any of Douglas’s civil fines or his separate debts. However, the judge did rule that the community was responsible for legal fees incurred in connection with this SEC case. Hill also ruled that Quin failed to prove her additional claim that Douglas “breached his fiduciary duty in connection with the sale of the couple’s luxury home.”

Douglas appealed, arguing the trial court failed to properly calculate his separate property contributions and his withdrawals. Quin also appealed on the grounds that even if “any traceable separate property remained in the account, the gains attributable to community efforts must be allocated to the community.”

The case was appealed to Division Two of California’s First District Court of Appeal. In a unanimous 3-0 decision on December 29, authored by Presiding Justice Theresa M. Stewart, the Court found that only the $290,000 spent on attorneys’ fees should be classified as community property.

Stewart’s opinion went into detail about how to properly trace and calculate Douglas’s separate property. Douglas provided evidence about the source of his $500,000 initial investment, part of his claimed $900,000 contribution. He said that Quin was “risk averse” and did not want him to invest any of their community property into the hedge fund. Stewart found that Douglas “misstated” Quin’s position. Her testimony, Stewart said, “supports a reasonable inference that Doug used community property to start the hedge fund.” The appellate court also found that Douglas’s testimony about the source of his separate property funds was “unreliable.”

The opinion next examined the $100,000 investment and concluded that Douglas failed to provide adequate records that traced this part of the hedge fund investment. Next, the court looked at the alleged $900,000 separate property investment and its withdrawal within the same year. Since he put the money toward the purchase of the family’s new home, he argued the court erred when it “failed to presume the withdrawal was for a community expense.”

Stewart then turned to the characterization of the $290,000 in legal fees. Douglas argued that the trial court erred when it “fail(ed) to allocate the entire cost of his criminal conduct to the community. On this point, the opinion said, “We affirm the trial court’s decision in all but one respect. It erred only to the extent it characterized the SEC penalty Doug was ordered to pay in the SEC case as a community obligation.” It found that Douglas’s legal feels were his “separate responsibility.” Stewart said that all the post-separation debts incurred “are Doug’s separate debts…and not debatable.”

The opinion then looked to California Family Code § 2550 et. seq., for statutory guidance on how to assess debt. Stewart said that under the Code, the criminal fines and civil penalties that Douglas incurred “…were sanctions imposed to punish Doug and to deter him and others from engaging in the crimes for which he was convicted …. Fines arising from convictions are generally considered punishment.” Therefore, he said that the trial court correctly treated them as Douglas’s “separate obligation” because the actions that led to them were not done “for the benefit of the community.”

The opinion then addressed Quin’s efforts to gain an accurate accounting of Douglas’s assets in the hedge fund. She hired a receiver, but the trial court refused her request for an accounting. Quin, however, failed to present an “intelligible legal argument for reversal” of her responsibility to pay half of Douglas’s legal fees. She also charged Douglas with gross negligence and breach of fiduciary duty during the sale of their home. Stewart concluded that the trial court “did not err when it rejected Quin’s claim for breach of fiduciary duty.”

The appellate court thus affirmed all the trial court’s rulings, except for how it characterized the penalty assessed in the SEC action as a community obligation. That matter was remanded with instructions to characterize the penalty as Douglas’s separate obligation. The trial court was also ordered to recalculate the financial obligations of both the Whitmans. In addition, in the criminal proceeding against Douglas, the U.S. District Court sentenced him to two years in prison.