Business owners who find themselves going through a divorce or separation are often suprised to find that, on top of all the other things with which they have to deal, their very business may be at stake – even at risk – and may become the subject of legal proceedings. This may be true even if you owned the business prior to the marriage, and your spouse never assisted you with, or indeed showed any interest in, your business.
If you started the business during the marriage, the odds are very good that the Court is going to find that your spouse has some financial interest in the business, even if they never worked at the business, in fact even if they actively avoided and showed no interest in the business. If your divorce takes place in a community property state, then your spouse will be entitled to fully one-half the value of any business which was started during the course of the marriage. If, on the other hand, your divorce is in an “equitable distribution” jurisdiction, the judge may make decisions on the division of the business based on principles of equity, and local standards.
In addition, in community property states, and at least some equitable distribution states, the spouse who is running the business has a fiduciary duty to the other spouse to run the business according to best practices, and as profitably as can reasonably be expected. This means that you cannot try to pad losses in a year running up to your divorce. In fact, you should plan on at least one accountant, and possibly at least one other financial expert, evaluating your business to determine, among other things, its present market value, its predicted future value based on current market trends, and the value of any marital equity.
You may think that if you owned the business prior to getting married that you are free and clear, and safe. But you’re not. Even though you may have purchased the business before getting married, if you or your spouse worked at the business during the marriage, and particularly if you are in a community property state, it is likely that your spouse will be entitled to some percentage interest in the business. This is the part which comes as a surprise to many business owners, as this is true even if you never took a dime from the marriage to run your business, and even if you kept your business completely separate in all ways. You see, while you are married your very time is considered a marital asset. And if you use that time to work on your business, you are using a marital asset to run your business, and so the marriage may acquire an interest in the business.
What if you work on the business, but draw no salary, or give yourself only a nominal salary? At least in a community property state, the Court may infer a reasonable salary for you to keep, and may divide what is left between you and your spouse. Or, conversely, the Court may assign to the marital coffers a reasonable rate of return on the business, leaving the bulk of the business assets to the business owner. In community property states all of this is dictated by the rather infamous cases of “Marriage of Pereira” and “Marriage of Van Camp“. In addition, if you paid family bills out of the business, the Court may consider that when determining what share of the business, if any, to give to a spouse (this is known as the “Family Expense Doctrine”).
And we haven’t even touched on some of the more complicated but less common issues, such as how to handle it when one spouse has a business, but ignores it and the other spouse runs the business for them.
Suffice it to say that the issues which confront the business owner going through a divorce can be numerous and complex. For this reason, if you own a business and believe that you will be facing divorce, you should at a very minimum:
Keep meticulous records, and if you haven’t been keeping coherent records all along, hire someone in to get your records up to date, and up to snuff, asap.
Have a realistic present-value evaluation done of your business.
Resist temptation to make major business investments or incur major business expenses as a way to somehow limit your business’ financial exposure during the divorce. Efforts to reduce the amount which goes to your spouse will almost always backfire.
All this said, there may be ways in which you can legitimately limit your personal financial risk, if not that of the business, for instance by altering the structure of the business entity (such as reorganizing it as an LLC or a corporation), or even just by changing your own work schedule or that of your spouse if they are working in the business.
For all of these reasons, it is a very good idea to consult with both an accountant and a competent family law attorney as soon as you become aware that you may be facing a divorce.
All this said, this information is not intended to put one off from starting or continuing in their own business. It can be very rewarding, and can, when structured properly, be away to allow one to spend more time with one’s children than one might otherwise be able when in someone else’s employ. For a good example of one man who has managed to build a succesful business empire while being home to help raise his three children, see Ask The Builder.com.