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Can a family-run business survive a divorce?
Certainly, the end of a marriage does not have to mean the end of a family business. But, whether you’re a successful female business owner or a woman who’s part of a successful family business team, you’ve undoubtedly sacrificed an enormous amount and spent untold hours to make the business thrive. A divorce can put all this hard work and your ownership stake in the business at risk –and that’s true whether or not your husband was directly involved in the company, and regardless of who initiated the divorce.
So, what can you do to protect your business in the event of a divorce? Keep these five recommendations in mind:
1. Determine whether the business is separate or marital property.
Details differ from state-to-state, but typically, separate property includes only:
- Property that was owned by either spouse prior to the marriage.
- An inheritance received by you or your husband (either before or after the marriage).
- A gift received by either spouse from a third party (the diamond ring your mother gave you, e.g.).
- Payment received for the pain and suffering portion in a personal injury judgment.
All other property that is acquired during the marriage is usually considered marital property, regardless of which spouse owns the property or how the property is titled.
So, in very general terms, if your business was started before the marriage, the value of the business at the time of marriage will usually be considered separate property, while any increase (assuming it’s active and not passive appreciation) between the date of marriage and the Date of Separation will usually be considered marital property. Likewise, if the business was started after you married, it would typically be considered marital property and be included as part of the marital assets that must be divided between you and your husband.
(Curious about some of the terminology in that last paragraph? See my earlier discussion about active and passive appreciation of assets, and then check out my blog post about the Date of Separation from earlier this fall.)
2. Pay attention to other state laws, too.
Each state has its own set of laws governing the division of a family business in divorce. For starters, there are nine Community Property States – Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin –and in these states, both spouses are considered equal owners of all marital property (a 50-50 split is the rule).
The remaining 41 states are Equitable Distribution States, where several other factors, such as the length of marriage, the age and health of the parties, the income and future earning capacity, are considered when determining a settlement. Settlements in Equitable Distribution States do not need to be equal, but they should be fair (equitable).
3. Establish the true value of the business.
As part of your divorce team, a valuation expert can appraise the value of the business. This analysis can tell you the value of the business at different points in time (e.g. at the time of marriage, on the Date of Separation, etc.) and can be used to substantiate and justify your position when negotiating with your husband’s attorney.
4. Carefully consider all your options. In general terms, the options for dealing with a family-run business fall into five broad categories. You can:
- continue with the status quo. Both you and your spouse maintain your current roles in the business.
- transition to new roles. You may have to change individual responsibilities and/or hire new employees.
- decide that only one spouse will keep the business. The other spouse would be compensated with an appropriate buy-out. (See different options for paying off your husband here. For example, you could pay off your husband with a Property Settlement Note, which allows for a long-term payout (with interest) of the amount you owe your ex-husband for the value of his share of the business.)
- sell the business and divide the profits.
- form an Alimony and Maintenance Trust (also known as a Section 682 Trust) or some other type of trust. An Alimony and Maintenance Trust can be funded by the business owner with equity in the family business (or other income producing assets). As a result, the income generated by the equity interest can be used to pay the former spouse for his share of the family business. An Alimony and Maintenance Trust may be desirable when: 1) a business owner does not want to (or can’t) sell an interest in a business to make divorce settlement payments, 2) the business lacks the liquidity to redeem the stock of the former spouse or 3) you need an alternative to a Property Settlement Note (as described above).
5. Divorce-proof your business while you’re single or happily married.
Tips 1-4 are designed to help you better understand the circumstances surrounding the division of a family-run business during divorce. However, I also have to add this:
It’s much, much easier to prepare for the possible division of a family-run business before your marriage hits the skids, or even better, before you’re even married.
There are several approaches you can take to protect your business, so female business owners, please take note. For instance, you can:
- use a prenuptial or postnuptial agreement.
- establish a Domestic or Foreign Asset Protection Trust (or another type of trust).
- create a buy-sell or operating agreement (Every business that has more than one partner/owner should absolutely have one).
See more details about how to protect your business in my earlier blog post, Divorce-Proof Your Business, Even If You’re Still Single or Happily Married!
Remember, though, in order for them to be legally effective, many of these protections must be in place years before the possibility of divorce is even on the horizon. Obviously, a prenuptial agreement needs to be signed before you are married, and something like a transfer to an irrevocable trust must be done years in advance. In some states, transactions can be voided up to seven years after the transfer.
According to the Small Business Association, 90 percent of all US businesses are family-run. If you’re divorcing, make sure you protect your business interests and Think Financially, Not Emotionally®. With a qualified divorce financial planner on your team, you’ll be able to carefully consider your options and plan for a stable and secure financial future.
Jeffrey A. Landers, CDFA™ is a Divorce Financial Strategist™ and the founder of Bedrock Divorce Advisors, LLC (http://www.BedrockDivorce.com), a divorce financial strategy firm that exclusively works with women, who are going through, or might be going through, a financially complicated divorce. He also advises women business owners on what steps they can take now to “divorce-proof” their business in the event of a future divorce. He can be reached atLanders@BedrockDivorce.com.
All articles/blog posts are for informational purposes only, and do not constitute legal advice. If you require legal advice, retain a lawyer licensed in your jurisdiction. The opinions expressed are solely those of the author, who is not an attorney.
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