When you and your spouse can't agree on anything, going through a divorce can be time-consuming, stressful, and expensive. Generally, negotiating a settlement directly with your spouse is often the fastest way to complete your divorce.
As part of the divorce, you'll need to determine how to divide property with your spouse, which can quickly become complicated if you built a business together during your marriage. Continue reading to learn how to divide a family business in divorce.
Property Division Basics
During the divorce process, courts typically identify all assets and debts by one of two categories: marital or community (owned together) or separate (owned only by one spouse).
If you have joint assets that you and/or your spouse acquired during the marriage, the court will need to divide this marital property according to either the community property or equitable distribution method.
States that follow the community property distribution model will split marital assets equally (50/50) between the spouses, regardless of who purchased the items. Other states follow an equitable distribution concept, which allows courts to divide property “equitably” or “fairly” between the spouses, but this doesn’t always result in a 50/50 split.
Most marital property is simple to split. For example, if you own a marital home, but don't agree on how much the house is worth, you can each obtain an independent appraisal to determine the property value. Once you agree on a value, you can subtract the liabilities—such as the mortgage debt or line of credit—remaining on the house, and determine how much of the sales profits each spouse should receive if the house is sold.
Dividing a business is often complicated, because you may need to hire business experts, attorneys, or other professionals to assist you in determining the value of the business and how to split the interests.
The court first needs to decide if the business is separate or marital property, and then will need to consider all of the following before issuing a final decision:
- what does the business own
- does the company owe any debts
- what’s the business’ income
- what formula should the court use to determine value, and
- the valuation date.
Divorcing couples can independently decide what to do with the family business. For example, some couples will sell the business and split the proceeds. Others may keep the business and continue running it as partners. If you would like to keep the business, but your spouse wants to sell, you can offer to buy out your spouse’s portion of the company. However, none of these options are viable until the court or couple determines the net value of the business.
Business Assets and Liabilities
The first step in determining the business value is to understand what your company owns (assets). Most businesses have tangible assets, like office furniture, electronic equipment, vehicles, and inventory. Tangible assets are typically easy to value because the court can evaluate the fair market value of the item and apply depreciation, if necessary. Intangible assets, like patents, trademarks, or client lists, are often so difficult to value, that you'll need to hire professionals or experts in the business field to help you.
It’s important to distinguish your marital assets from separate property. For example, if one spouse owned a trademark or patent before the marriage, in most states, the value of that asset would be awarded to the owner-spouse. Other states may combine the separate property into the total value of the business before dividing it in the divorce. But, regardless of how the court classifies the asset (marital or separate), the judge will consider it in the overall value of the business.
Business liabilities include anything that might cost the company money. Some examples include loans, credit card debt, payroll, taxes, or service contracts.
Experts refer to this method of valuation as the “asset approach.” Typically, you can get a starting value for your business if you subtract the liabilities from the assets.
What About Business Income and Profits?
One way to calculate profit is by subtracting the business expenses from the business income. Business expenses may include the costs of production, performing services that the business sells, and business overhead, like inventory and rent or mortgage payments.
Income is the total amount of money the business receives from its sales, products, equipment, or investments. When you subtract your business expenses from the total income amount, you're left with the net income or profits.
You can determine profit in a number of ways, so it’s best to speak with a licensed business appraiser and evaluate the business's financial records so you can accurately assess profitability before settling your divorce.
What Method Should We Use to Determine Value?
In addition to the “asset approach” above, you may also use one of two other standard methods to determine the value of your business.
The income approach is the most common method for valuing a business, which uses your financial history of profits and specific formulas to estimate how much money the business could make in the future. The equations used by experts change frequently, so it’s best to contact a business valuation professional to make sure you get an accurate value.
The market approach is similar to how real estate professionals and appraisers determine property value, in that the experts assess your business’ value by comparing sales—comparables or comps—of similar business sales in your area. The market approach method appears simple on its face, but may not be as reliable or accurate as one of the other methods, especially if there are no recent sales of similar, local companies.
The Appropriate Date of Valuation
The purpose of any business valuation in divorce is to ensure that both spouses leave the relationship with a fair share of the assets and debts from the marriage. If the court values the business beginning on the date of the marriage, it won’t take into consideration changes in economic climate and profitability over the years.
It’s best for the couple or court to value the business as close to the date of the divorce as possible in order to accurately account for any increase in profit, potential income sources, and debts.