No one believes divorce is easy. Parting ways, rebuilding, and adjusting to a new normal is a turbulent process. When a family business is involved, the complexity is amplified. In addition to separating home and family life, your split goes one agonizing step further, to include your career.
Divorce involving a business partner brings extra issues that need to be addressed. Depending on the level of mutual civility, the specifics of your business, and your priorities, you and the ex can come up with an agreement that leaves your livelihood, if not your heart, in good shape.
Let’s take a look at the issues.
Common Issues with a Family Business
1. Is it in writing?
If you have a clear agreement in writing things will go more smoothly. This is why the mantra of lawyers is “get it in writing”. When you set up your family business did you file a certificate of incorporation, create bylaws and a shareholder’s agreement? If your business is structured as a general or limited partnership, do you have a partnership agreement? If you are a limited liability company, do you have an operating agreement?
If so, these documents will help determine legal ownership of the business, who runs the business, what happens to profits and losses, and other matters covered in writing. Make sure everyone is aware of these contractual agreements to help streamline the process should the courts get involved.
Many family businesses start without proper documentation. Probate and Family Court have the power to step in and fill in the blanks. Their power extends to dividing the business as a marital asset.
2. Are the roles well defined?
Small businesses and startups usually require entrepreneurs to wear multiple hats. This can muddy the waters when deciphering what responsibilities and roles you and the wife played in the business, especially if there is no documentation defining clear duties and titles.
Do you believe your wife is an administrative assistant who supported the day to day operations and she sees herself as head of operations? Even if job titles were agreed upon, titles only go so far. This can be one more point of contention in overall divorce negotiations, where spouses often have differing perspectives on how family and business worked in the marriage.
3. How do the books look?
Running a family business is hard work. It’s common for bookkeeping to take a back seat to more urgent priorities in a bustling business where you are both owner and operator. When outside parties delve into them to do a valuation or to determine how much cash flow is available to pay child support, things can get messy if the books are not complete and accurate.
Did you frequently mix personal expenses with business expenses? It’s not uncommon for a family business, and it’s also a recipe for confusion. As a couple, did you mix your business and personal assets for a business loan? Again, this adds a layer of complication.
Options for Disposition of the Family Business
Now that we covered some of the major issues, let’s talk options.
Co-ownership is an option when both parties want to keep the business intact. In this scenario, the business does not become a communal property asset to be split. Instead, you and the ex-wife own an interest in the business, as partners.
If you and your ex-wife can be civil and put aside your personal grievances for the sake of the family business, this can work. If seeing your ex on a daily basis will cause undue stress or hinder you from moving on, this choice is not ideal. Be honest about what how it will affect you, and the business. If your divorce is mutual, amiable, and you can trust your ex, this may be the right move for you.
2. A buy-out
A second possibility is one spouse buys out the other spouse’s interest. One spouse then continues to own and operate the family business while the other is free to move on and invest in a new venture. The advantage to this option is a clean break from your ex-wife. In an acrimonious divorce, especially one where there is no mutual trust left, this may be the best strategy. Feuding exes trying to run a business together may run it into the ground.
The buy-out can be a simple cash sale, or it can be swapped for community property. For instance, the husband agrees to give up the ownership of the family home to his ex-wife, and she gives him the family business in exchange. The disadvantage to a buy-out is that one spouse must have the money, or the assets, to afford the transaction.
A third option is to sell the business and divide the profits. This decision offers a clean split and puts money in your pocket at a time when you probably need it.
There are a few downsides. Depending on the nature of the business and the current market, it may take a while to find a qualified buyer and close the deal. You could take a hit if you sell too early. Maybe there’s a new product about to launch or big investor coming in, but if you sell before it happens, you take a substantial loss.
When deciding to stay or go, take into consideration what your life will be like after the sale. Are you emotionally tied to the business? Does it give you a burning purpose that gets you out of bed in the morning, excited to start your day? Is it more than a job; is it where you have the majority of your friendships and the foundation of a rewarding career?
Also consider that when couples stop being life partners they sometimes form a better working relationship as co-owners. If you and the ex-wife can honestly talk, problem solve, and make decisions when it comes the family business then maybe selling isn’t the best strategy. Either way, this decision requires lots of thought on both sides.
Business Valuation for Divorce
Let’s say you decide that you can’t work with your ex-wife, your next decision is whether you want to sell, buy out your ex, or let her buy you out. Whichever you choose, you must determine the value of the family business and what each partner owns of it.
Who owns what?
Ownership of a family run business falls into two categories, community property (meaning it’s owned equally between the spouses) or separate property (owned by one spouse because it may have been owned before the marriage or bought with separate property money, such as from an inheritance). Of course, the laws vary by state, so it is best to consult a lawyer where you live.
Main factors which determine community versus separate property:
- Date of the marriage and date the business was founded
- Source of the funds used to start the business
- The financial and labor contributions of each spouse to the business during the marriage
Community interests may include:
- Joint funds invested in the business, whether startup capital or additional funds invested later to grow the business
- Financial appreciation in the value of the business during the marriage, especially as a result of joint financial or labor contributions
- Each person’s contributions to the business, especially when those contributions played a role in the operation or growth of the business
Community versus separate interest is not black and white, it’s a fuzzy grey area. It’s best to seek advice from an attorney and financial specialist in your state.
What is the business worth?
Valuing a business is substantially more complicated than appraising a residence. A business appraiser first collects all the relevant information, which includes everything from financial statements to tax returns, and your books. The appraiser selects the appropriate valuation method for the type of business and applies it to the information gathered.
There are three generally accepted valuation methods:
- The market approach where the business is valued in comparison to similar businesses that have recently sold.
- The income approach which estimates the value of the business by converting projected profits or cash flows into a value. This is generally based past and current profits.
- The asset approach which values the assets and liabilities of the business.
Choosing an Appraiser
Choose a professional business appraiser you and your wife can trust. The safest approach is to go with a Certified Business Appraiser (CBA) or Accredited Senior Appraiser (ASA). There are other certifications, but these certificates have the most rigorous requirements, by far. Appraisers who have reached this level of expertise can be found at the American Society of Appraisers (ASA) and the National Association of Certified Valuators and Analysts (NAVCA).
The cost of an appraiser will run from about 3,000 to 12,000 dollars. The type and size of the business and the level of service (the depth of analysis and reporting) all factor into the cost. To help save time and money it’s wise to be organized and gather all your documents in advance.
In an acrimonious divorce, there may be little trust, in which case you and your ex may request separate appraisals. This doubles the cost and may take longer. To save even more time and money, try to agree on an appraiser you both feel comfortable with.
More Knowledge Equals Less Risk
Divorce involving a family company is serious business. While the information covered in this article is meant as a starting point to familiarize you with the general ins and outs, it by no means replaces legal advice. If you are considering co-owning, buying out your spouse’s interest, or selling your business, the first step is to research the exact laws in your state and seek competent professional advice. Being un-informed makes any divorce risky business.
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