A Complete Guide 2022 to Dividing a Business in a Divorce
Splitting businesses, property and assets in divorce
When a couple divorces, it is almost always necessary to divide property. Sometimes this process is as simple as agreeing who will take the couch, television, and refrigerator. More often, the parties need to consider larger assets from the marriage, such as cars, homes, and superannuation. Occasionally, divorce involves the division of complex assets, such as ownership of a multi-million dollar business.
Regardless of the type of assets involved, the process is guided by the same legal principle: what is “just and equitable” given the circumstances? There are important steps that you should take to protect more complex assets during a divorce. This article provides a complete guide to dividing a business in a divorce.
How are family business assets broken up during a divorce or separation?
When a couple is considering separation or divorce, and one or both parties own a business, then questions will arise over the business ownership. The breakdown of a relationship creates risk for everyone involved in a business, from the couple themselves, to other business partners, and anyone with an vested interest in the business. As such, it should be standard corporate risk management for any business to consider the impact of a family law action on business ownership. This is particularly true for a family owned business.
When a relationship starts to break down, a family business often becomes a setting for the ongoing conflict. Even if a former couple is willing to continue operating a business, the situation can become fraught if there is a breakdown in trust. One spouse may attempt to divert assets or withhold information that is necessary to accurately value the business. It is essential that all parties should proceed with caution, and seek legal advice as soon as possible.
Does this happen to de facto couples?
The rules for property division and business ownership are largely identical for married and de facto couples. In a de facto relationship, all business interests can be considered assets for the purpose of division under the Family Law Act 1975 (Cth). This is true of business partnerships, sole trader businesses, companies and trust structures.
The rules that define a de facto relationship are specific and assessments are made on a case-by-case basis. As a general rule, however, if you are in living with someone on a genuine domestic basis, then there is potential for the relationship to be considered a de facto marriage. You should be aware that if you are in a long-term relationship but live separately from your partner this can still be considered a de facto marriage. If you have questions about the status of your relationship, you should see legal advice from a lawyer with experience in family law.
What happens to a business in a divorce?
When one or both spouses own a business, it is considered a marital asset for division. There are, however, a few exceptions to this rule. Firstly, if the couple signed an enforceable agreement (such as a prenuptial agreement) then the business is not subject to a property settlement. Secondly, the business may be exempt because it is held in a structure and is not personal property (such as a trust).
Otherwise, marital assets are divided after divorce proceedings according to a four-step test. These steps determine what is a just and equitable division of property by:
- Identifying the value of all assets and liabilities of both spouses;
- Assessing the financial and non-financial contributions of each spouse;
- Considering the future needs of each spouse; and
- Determining what division of property is just and equitable in all the circumstances.
It is important to note that Step 2 in this process takes into account a number of factors, including non-financial contributions that each spouse makes to the relationship (such as parenting and maintaining a home). This means that even if a spouse did not directly work in or fund the business, that spouse may still be entitled to part of the business in a divorce.
The martial asset test outlined above dictates what percentage of the property pool each spouse should receive. For instance, the division may be 50/50 or 60/40, depending largely on each party’s contributions and future needs.
Who gets the business in a divorce?
The process of splitting assets is difficult, even when the only assets are a fridge, couch and TV. When there is a business involved, it can make a difficult process even more challenging.
There are a number of possible property settlement outcomes when a business is included in a property pool. The most common outcomes include:
- The business is sold to a third party and the proceeds are treated as cash in the property pool;
- One spouse arranges a buyout of the other spouse’s interest in the business;
- The former spouses continue to own the business, and make necessary adjustments to business operations so that their professional relationship can continue after the end of the personal relationship;
- The business is split and each spouse takes part of the business.
The parties to a divorce may decide that any of these options is the appropriate choice given their circumstances. However, some option are more problematic than others. For instance, if a former couple continue to operate a business together, this can be a cause for concern in the long run. A general rule of family law is that there should be finality in the division of assets following a divorce. According to this rule, a divorced couple should not remain co-owners of a business.
When the spouses choose to sell the business, they need to be aware that there is likely to be a limited market of potential purchasers. This means that a business may take time to sell, and the owners may have to take a lower price in order to sell in the short term.
Can a business be split in a divorce?
Some divorcing couples choose to split a business into two viable entities. For instance, if a business has two operating locations, then each spouse can take ownership of one of the locations.
In that case, the parties should consider the impact of splitting the business. Will the separate parts of the business be viable without each other? Has the value of each part been calculated accurately? What ownership structure is required to ensure that each party is legally free of each other?
How the family court makes its decision
When you are unable to reach a private agreement about the division of marital assets or the business value, you can ask the Federal Circuit and Family Court of Australia to make this decision for you. The Court will almost certainly require an independent valuation of a business if the parties cannot reach an agreed value between themselves. The Court will use this valuation to establish each party’s entitlements for a fair division of assets.
The Court will also be reluctant to make an order that involves the ongoing financial entanglement of a former couple. The Court will order that the business be sold if it is necessary to ensure a fair and equitable division of property. This will not be required, however, if the Court can allot other marital assets in order to achieve an equitable division of property. For instance, one spouse may keep a valuable business but give up all interest in the family home.
How do you value a business for divorce?
Reaching an agreement on the value of the business can be a real obstacle in finalising a property settlement.
While an asset such as a house can be valued fairly easily using a market appraisal, valuing a business is inherently more difficult. Despite its inherent difficulty, agreeing a value for the business is a critical step if a separating couple are to avoid a Court proceeding.
It is usually necessary to engage a business valuation expert to determine the true value of the business. An independent business valuation can bring clarity to the property settlement proceeding. Most professionals who provide these services are accredited in Business Valuation (ABV), and/or are Certified Valuation Analysts (CVA), Accredited Senior Appraisers (ASA), or Certified Business Appraisers (CBA).
The independent valuer must provide an accurate estimation of the business value, without any bias or partiality. The value of a business is based on a wide range of factors, some quite complex and dependent on a thorough assessment of the business’s financial records. A business is valued at the date of property settlement or Court hearing, not the date when the couple separated.
The independent valuation is usually different from a prospective sale price on the open market. Rather, the valuation also considers the benefits that the owner would receive if they continue to maintain their interest or role in the business. For instance, if one spouse will be able to stay on in the role of CEO, then this is an additional benefit that must be considered in the valuation of a business.
There are different approaches to calculating a business valuation depending on the size and type of business, but the valuer will likely take into account:
- Business income, with consideration of the stability of the earnings and the likely future expenses;
- Business assets, liquid assets, and liabilities;
- Whether the business has stopped or is continuing to operate;
- Estimations of future cash flow;
- Estimations of profits if the business was sold; and
- How the business is categorised (eg is it a sole trader, partnership, listed company, private business, a company-held business, or trust arrangement).
It is important to remember that even if a business has little value on the open market, it is still a consideration during a property settlement. A business that could produce an income stream represents a future financial resource available to the spouse.
Ways to protect your business in case of divorce or separation
If you are in a relationship and own a business, we suggest you speak to an experienced Family Lawyer. If you are in a relationship and considering starting a business, this is even more important. This is an ideal time to think about how you can structure your business to protect it in the event of future relationship breakdown.
For instance, you may wish to enter into a binding financial agreement so that you and your partner agree how assets will be divided in the event of separation. This can be signed prior to or during your marriage/relationship.
You can also enter into an agreement with other owners of your business. In that agreement you can require that any unmarried owner must sign a prenuptial agreement before they get married. The prenuptial agreement could state that a future spouse agrees to waive any and all interests in the business.
Alternatively, you can arrange that in the event that a business owner divorces, there is a transfer of shares so that control of the business remains intact. Another possibility is to place the business in a trust so that it is not counted as a marital asset.
Speak to a family lawyer today
If you have business interests and you are considering divorce, you should obtain legal advice as early in the process as possible.
Unified Lawyers can help you to protect your business from family law proceedings, and negotiate an property settlement outcome that protects your business interests. Please call 1300 667 461 today for any legal advice or representation.