Are you a business owner who is contemplating divorce? Whether you and your spouse run your business together or it’s a separate affair, it will need to be addressed in the divorce. So how do you fairly decide on how to handle the division of a business? We asked CPA, Darren Hall, to walk us through some of the basics of this process.
Whether the business is managed by a single spouse or both, Hall states that it’s important to remove your emotions from the process as best you can, and remember that this is now a business transaction.
“When you're at the point where you're facing divorce, a major concern is what's going to happen with the business. It could be that for one partner, it's their livelihood, it's their baby. It's what they've done, it's what they want to keep doing. And there are serious concerns that it's going to have to be sold or liquidated, or that it's not going to be able to be kept because the other partner is going to need to be paid off,” says Hall. “The first thing to do is remember that you're at a point now where the marriage is over, and you're now looking at everything as a business transaction. So how are you going to get to the end goal that you want, which is keep your business, separate it from your spouse, get your spouse his or her share of the assets, and move forward?”
The first and most important step in dividing a business in a divorce is to determine the worth of the business.
“If you look at a piece of real estate or a vehicle, it's easy to figure out what it's worth. For most things, the value is readily ascertainable. For businesses, it's a lot more difficult,” says Hall. “There's a whole group of professionals that deal with that; they're called certified valuation analysts.”
Hall explained that there are several methods certified valuation analysts can employ to help you determine the value of your business. Whichever method is used, once the process is completed, divorcing spouses will then need to decide how they want to divide their business, along with their other assets. While state laws vary as to how property is divided (e.g., community property vs. equitable division), the general goal is for assets to be divided 50/50, or in a way that is considered fair and equitable.
“Oftentimes what happens is you'll have a home that's worth $500,000, a few other small assets that are really not significant, and then you've got a business that's worth $2 million. And there's no way to do just an even split, because one asset is way too big,” says Hall. “In that case, there's the option of selling the business to an outside party and splitting the cash, there's the option for one partner to buy out the other spouses interest, and the third option is that one spouse just gets a bigger piece of the assets than the other.”
An important consideration that all business owners should be aware of when negotiating division of assets in a divorce, is the role that taxes will inevitably play.
“A key thing that a lot of people miss quite often is that it's not enough to say, 'You got a million dollars’ worth of assets, and I got a million dollars’ worth of assets,'” says Hall. “This is because assets have a thing called basis, and the basis determines what the taxability of those assets are going to be when they're ultimately sold. So all assets in a divorce settlement should always be tax adjusted to their after-tax value.”
When asked if it’s possible or wise for divorcing partners to continue co-owning a business, Hall states that this option can sometimes be beneficial for both parties, assuming you’re able to successfully continue working together.
“Sometimes it can be very beneficial, tax wise, for partners to split the company and remain as co-owners. As I said at the beginning, you're at the point where your marriage is over. You should take emotion out of it and start looking at it as a business transaction by asking, ‘How do we make sure that we each come out of this the best that we can be?’ And oftentimes, if both partners remain in the business, that can create a phenomenal result due to the shifting of income from the higher income taxpayer to the lower income taxpayer, which can result in some tax savings that can be split by both parties,” says Hall.
While the process of deciding how to divide a business in a divorce is not a simple one, there are options available for both parties to pursue that can ensure a fair decision is reached. If you are a business owner who is considering a divorce, you can listen to Darren’s full interview, where he dives further into the details of the processes required to evaluate and divide a business, on our Modern Family Matters podcast.