I get asked a lot about how to divorce-proof a business. Entrepreneurs often get married young without a prenuptial agreement, but when getting a divorce they have a business worth millions. However, if they are not careful they could find their ex-spouse as their business partner or be forced to sell the business to raise cash to buy them out of their interest in the business. This is why it is important to protect your business from divorce.
Although a post-nuptial (yes- they do exist!) is not a bad idea, I do not recommend running out to get one because of this article. Don’t worry though, there are ways to soften the blow of divorce when it comes to your business.
First, if your spouse works for your business, phase them out! Helen, are you suggesting I fire my spouse? Yes, I am! Obviously, the bigger role your spouse plays in the day-to-day operations of the business the more arguments the spouse will have that they contributed to its profit and growth and should be compensated accordingly. Leave a paper trail documenting that they are not an employee and have no involvement in generating ideas or with operations of the business.
Not only do you want to phase them out, but you also want to find them another job elsewhere. Often times a spouse can argue that they contributed to the company’s growth and profits by staying home to take care of the children and the house while allowing their spouse to go to work. By giving up their career and allowing their spouse to focus on the business they can then claim that they should not lose out on the fortune they made it possible for their spouse to amass. Also, if they are employed elsewhere it makes it easier to prove that they have no involvement in your business’s profitability and growth.
Next, meet with a knowledgeable accountant and come up with a plan to establish a corporation, LLC, or a living trust to restrict ownership and possibility of transfer. If you have business partners revise the partnership agreement to make sure that your interest is protected and there is an exit plan in place that protects your interests in case of divorce. This may involve a little effort, but while it may not be apparent to you business interest and income are at risk during a divorce, and one mistake could cause personal and financial havoc on your life.
Third, and one of the most important suggestions I have, which might at first seem counterproductive to protecting your business interest and money, is pay yourself as much as reasonably possible in income from the business. You may be thinking that this will make it seem that you make tons of money and that is bad. However, the law and common sense don’t usually intersect. In fact, if you are reinvesting all of your business revenue back into the business, your spouse could make an argument that he or she is entitled the appreciation value of the business. What you must understand is that even if your spouse has never played a role in any part of your business operations and growth, if they stayed home to allow you to grow the business, in most states they are entitled the appreciation value of the business. You see, there is active appreciation and passive appreciation. Their help, by giving you time to work and to focus on work, is considered active appreciation, which would entitle them to a portion of that active appreciation amount. Therefore, if you can limit the value of appreciation by paying yourself a reasonably hefty income, in line with a market-rate salary for your position and profession, then of course your spouses would have a lesser claim to your business revenue.
Keep business revenue completely separate from personal assets. Do not commingle funds! Have completely separate bank accounts, credit cards, etc. This is especially crucial if you began your business prior to marriage, which would then be considered your separate property. Of course, as we discussed previously, your spouse may still argue his or her entitlement to the active appreciation of the business. However, if you followed the advice herein, you have paid yourself an appropriate amount of income and heavily lessened their possible claim. Also, often times divorce outcomes hinge on the lifestyle of the spouses and maintaining that lifestyle for both spouses. Keeping business funds separate from personal funds will make it much easier when necessary to clearly define what is the property of the business and what is personal. It will also go a long way to define your lifestyle and how much of the money actually went to support the lifestyle and how much was invested back into the business.
Lastly, if it is too late for all of the above and even if you have followed all of the advice in this article, unless you have unlimited resources and are simply reading this article for fun, you can and must ensure your business is valued fairly. Make sure to invest a bit of money and hire a recommended, experienced and trustworthy forensic accountant, with a great reputation in their community for the accuracy of their valuations, to value your business.
Many times family law attorneys without experience in business interests and distribution will advise you to forgo this step because it is expensive and may be a tedious and lengthy process. They will suggest you simply pick a dollar amount to offer your spouse, which may lead to hours and hours of extremely costly litigation and negotiation between your attorney and your spouse’s attorney. Worst of all, all of the back and forth between everyone can needlessly cause an even deeper divide between you and your spouse. Contrary to their advice, having years of experience representing clients with major high net worth business interests and portfolios, I would argue that this step is crucial. Having a proper valuation of your business will provide you with a realistic perspective on the dollar amount your spouse may claim. Also, if you request the court’s assistance in deciding the distribution of your business value and assets they will require you to have your business valued. Be aware that, there are different methods of valuations that are acceptable and I would request that your evaluator does a full comparison outlining your options and best outcomes. With his knowledge, you can decide how reasonable or unreasonable your spouse’s claims are and do your best to come to an amicable settlement agreement and property distribution which may not affect your business ownership interest or your assets as much as you would have predicted prior to having a full valuation completed. This will allow you to put things in order and plan for how to best distribute assets to protect your business interest and give you an advantage when negotiating an amount your spouse is in fact entitled to.
Bottom line, if your business was started or if it experienced significant growth during the marriage a portion of the value of the business will be considered marital property and your spouse will be entitled to a portion of that value. This article is by no means suggesting that your spouse should not be entitled to those funds considering a marriage is a partnership and you promise to support each other for better or worse. However, this article provides you with certain safeguards you can take to make sure the outcome of your divorce and the consequences it has on your business are as fair and minimal as possible.
Lastly, let me just say that the worst thing you could do is take steps you think are reasonable, which could later be deemed illegal or that a court could assume you took to dispose of assets or dissipate the value of the business in contemplation of divorce. So, do yourself a favor and seek out the advice of a Hackensack, New Jersey divorce lawyer experienced in high net worth divorces and business interests before taking any of the steps discussed in this article.
Divorce is never easy, but we can help you get through it, and ensure that at the end you say “Nothing Says a Good Day Like a Divorce”.