Many of us own our own businesses, whether as a sole proprietor or as a partnership or even as a closely held corporation. Unlike other forms of income, such as straight salary, or other forms of investment, like owning stock in a company, business ownership represents a stake in the entire operation – not just its income, but its capital, its profits and its debts.
In a divorce, a court must divide all marital property, including any and all assets purchased during the marriage. Even if a business predated a marriage, depending on its corporate form it could still acquire assets during the marriage that qualify as marital assets, which means that your spouse has a half interest in the net value of the equity of the business acquired during the marriage.
When spouses work and own a business together, divorce can wreak havoc on the future of the business. One spouse may want the business alone and the other spouse out, but the spouse may not have the funds to buy that spouse’s interest, which means that spouse has a major advantage in the divorce proceedings. And some spouses, overcome by the emotion of the divorce, fail to see that trying to grab the interest of the business, even if that closes the business, could be a long-term financial detriment because it could cripple the ability of the other spouse to pay maintenance or child support.
Even when a spouse does not work in the business, that spouse’s interest in the business could still pose a financial problem if that spouse demands payment of the interest at the time of divorce.
So, what can a spouse do to protect the business so it lives through the divorce?
First, take advantage of prenuptial or postnuptial agreements. Parties can always enter into agreements about disposition of assets in the event of divorce, so long as the parties have full and fair disclosure and the opportunity to consult with an attorney, and the agreement is entered voluntarily. A party could agree to waive any interest in the business or leave the business in the event of divorce for a specific payout that could take place over time. The beauty of the prenuptial agreement is that it allows the parties maximum flexibility to consider ways to safeguard interests and the business at the same time, without treating one spouse too unfairly that a court might not enforce the agreement.
Second, should the parties not have a prenuptial or postnuptial agreement, the spouse seeking to keep the business could trade the marital interest of the other spouse for an equal value in other marital assets. If the business is the lifeblood of one spouse, sacrificing a future asset, like a retirement account, to keep the business may make sense. It could also be traded for spousal support, entered contractually, that would function like an annuity.
If neither of these options seems feasible, the parties should work together to avoid letting the court decide. For example, the court could simply order one spouse pay the other a lump sum for the interest in the business, due at the time of judgment. That lump sum payment could force the other spouse into insolvency. So, at a minimum, a spouse should consider some type of longer term payment plan for the business interest.
Small businesses can take real hits during divorce. The takeaway here should be to do everything to save the business well in advance of any downhill movement in a marriage.
If you have questions about business interests and divorce, contact us – we can help.