A key issue confronting the forensic accountant is to make sure that earnings at the time of the event were representative or typical. For work involving a high degree of seasonal employment or for a pre-event earnings history marked by a trend up or down, or a partial year’s worth of earnings, adjustments may be needed to measuring base earnings. The forensic accountant needs to proceed with attention both to details and to factors that a judge or jury would understand, especially if not considered or pointed out by opposing counsel.
The forensic accountant would prefer ten years of annual data in order to perform statistical analysis, like regression analysis, that might help detect certain trends. The pattern of each person’s past earnings trends should raise questions leading to added information gathering and analysis. What type of job did an individual have that accounted for such volatility in earnings? Was pay highly variable due to changing geographic location, industry, occupation, typical work hours, variable commissions, or some other reason? Perhaps the individual was not working for periods of time due to work-limiting injury, hospitalization, or other considerations.
Earnings of most workers increase each year due to a combination of inflation and productivity. The latter is due to individual human capital expressed as individual education, general knowledge, and job-specific experience. We may make this adjustment using either the Consumer Price Index (CPI) of the Bureau of Labor Statistics (BLS) or the Employment Cost Index (ECI) also published by BLS. There are certain advantages to the latter to adjust earnings since the ECI measures wages and salary changes, whereas the CPI measures average changes in the prices of goods and services that consumers purchase. Also, arguably the CPI does not directly capture productivity gains, only inflation, and an adjustment which may be appropriate for an older worker but not an individual still gaining human capital.