Dividing a Family Business in Divorce

dividing a family business in divorceWhen owners of family or closely held businesses divorce, they may wonder whether or not they are going to have to divide their business as part of asset division, and if so, what exactly that might mean for their financial future. A “closely held” business is either family-owned or has shares owned by a small group of investors. If you are one of these family business or small business owners, what divorce options do you have?

In New Jersey, any business ownership acquired by either spouse during marriage is generally considered a marital asset subject to equitable distribution in divorce. If one spouse owns a business interest before marriage or inherits or receives it as a separate gift during marriage, any increase in the value of the business during marriage will also be treated as marital property, provided that the increase was due to the active efforts of either spouse. In an equitable distribution state like New Jersey there is no fixed formula for dividing marital assets. If a business was started and managed by both spouses during marriage, the percentage share would probably be close to 50/50, but in most situations it is open to negotiation.

New Jersey courts look at a long list of factors when determining a fair split, including the length of the marriage and each spouse’s age, health, and ability to maintain a standard of living after divorce that is reasonably comparable to the marital standard. Courts will also consider the need for a spouse to obtain education or training to become self-supporting, and whether or not one spouse deferred career goals for the sake of the marriage or contributed in some way to the education or earning power of the other spouse.

Before a business can be divided, it must be assigned a value. In New Jersey, this means determining “fair value” according to a business valuation expert. Fair value is different from “fair market value,” in that the former does not discount value based on the length of time it might take to sell the business or based on a minority interest owner’s lack of control over the business. The rationale for using fair value is based in part on the fact that most closely held businesses lack a ready market, making fair market value particularly difficult to determine. Owners and other directly interested parties will generally value the business more highly than the market at large . Valuations of closely held businesses are usually calculated according to either capitalization of income or discounted cash flow, two methods that rely heavily on business income.

Unless a business is going to be divided close to 50/50 based on each spouse’s contributions to the business value, the spouse who expects to receive a greater percentage of the value can take advantage of a few different arguments to try to maximize financial return, including the following:

– An argument that due to the subjective nature of “fair value” and other relevant factors, the business value (and therefore the value of the spouse’s share) is lower than the value assigned by the expert. [Read about one divorce where one spouse’s attempt to report a lower business value really backfired.]

– An argument that the spouse should receive a lower percentage of the business value due to the relative nature of each party’s contributions.

– An argument that alimony should be reduced because the source of the alimony would be the same income stream already used to value the divided business (sometimes called a “double-dipping” argument).

Depending on your unique circumstances, you may have additional arguments. A qualified family law attorney can review your case and help you consider all the possibilities. Once you have negotiated an agreement or received a court order regarding the valuation and percentage share, the next question will be how to accomplish the distribution. Options include selling the business or your share of the business and dividing the profits with your ex-spouse, continuing to co-own the business with your ex, or arranging a buy-out of your ex’s share. Buy-outs can be structured in various ways. Some spouses exchange value in other assets—often the family home—for the value of the business share. Others choose to finance the buy-out of the former spouse’s share with a loan, or enter into an agreement for a payment plan with their former spouse.

If you are a small business owner and would like to discuss your options regarding valuation and distribution of your business in divorce, contact us for an initial consultation.