Divorce Articles Section

How Do We Divide the Family Business?

by Carol Ann Wilson, CFDP (Certified Financial Divorce Practitioner)

Whenever one of the marital assets in a divorce is a business, there are challenges in dividing this asset. A business can be anything from dentistry, medicine or law, to real estate, or a home-based business. It can be a sole proprietorship, a partnership, or a corporation.

Value the Business

Becky and James were getting a divorce after 35 years of marriage. James owned a heavy construction business. He agreed to split the assets 50/50 and said that the CPA at work valued the business at $300,000. Becky told her attorney, "I used to keep the books in the business for James, and we took in more than a million dollars each year. Do you think it would only be worth $300,000?"

Fortunately, Becky's attorney insisted that she have the business appraised. The appraisal cost Becky $4,300, which made her very nervous to spend so much money. But the appraisal valued the company at $850,000 so her investment of $4,300 netted her $275,000 more than she would have received with the $300,000 valuation!

In a divorce situation, it is almost mandatory to have the business appraised. Becky was right to question the value of the business when it was figured by the CPA at her husband's business. There are Certified Business Appraisers (CBAs) who value businesses. To earn this designation, appraisers must pass a rigorous written exam and submit appraisals for review by a committee of experienced peers.

Dividing the Business

There are three options when deciding how to divide the business. Either one spouse keeps the business, both spouses keep the business, or they sell the business outright.

1. One Spouse Keeps the Business.
In Becky and James' case, it was pretty clear that the business was run by James and he would keep the business and buy out Becky's interest or give her other assets of equal value. If there are no assets large enough to give her, they could write up a property settlement note and he would pay her over time. If Becky owned shares of the company, the company could buy back her shares over time.

However, care needs to be taken when buying out shares of stock. If there has been an increase in the value of the stock, Becky could be liable for capital gains tax. If James bought her shares directly, it would be considered a transfer of property "incident to divorce," which is not a taxable issue. The basis would go with the stocks and would not be recognized until the stocks were sold by Becky later on.

2. Both Continue to Work in the Business.
On the other hand, it is much more difficult to divide a family owned business where the husband and wife have worked next to each other every day for years. They both have emotional ties with the business. In addition, if they try to divide the business, it may kill the business. Some couples are better business partners than marriage partners, and are able to continue to work together in a business after the divorce is final. However, this won't work for everyone!

3. Sell the Business.
Another option is to sell the business and divide the profits. This way, both parties are free to look elsewhere for another business or even to retire. The problem here may be in finding a buyer. It sometimes takes years to sell a business. In the meantime, until the business is sold, decisions need to be made as to whose business it is and who runs it.

Stella and Dan owned a national franchise fast-food business. They also owned the land and the building the business was in. They had worked hard on this business together to make it a success. When they divorced, it was a difficult decision but they finally agreed that Dan would take the business and Stella would take the land and building. This decision made Stella the landlord which allowed her to control the rent that the business paid her and also how repairs and maintenance on the building should be handled. They soon realized they had made a bad decision. It cost them more money with their attorneys to hammer out a new buy-out agreement which allowed Dan to keep the business and the property, and gave Stella enough cash to move out of the area and start over in a new location.

Value of a Degree

Some states even place a value on degrees such as the medical degree, the dental degree, or the law degree. In a 1980 case, two premed students got married. The couple agreed that the husband would finish his education first while the wife supported him. When he finished, she would then complete her education.
After his first year of residency, the couple separated. The court held that the husband's medical school degree and license to practice medicine were both obtained during the marriage, and therefore were "property" and to be considered assets to be divided. It established the value of the husband's medical education as the difference in earning capacity between a man with a four-year college degree and a specialist in internal medicine. With the help of a financial analyst, the court valued the education at $306,000. The wife was awarded, in addition to alimony, 20 percent of this amount over a five-year period.

A 1982 case in Wisconsin called on an economist to establish the value of the wife's investment in her husband's medical degree after short marriage. The economist valued the degree in two different ways. The first method looked at what the wife actually paid for his tuition, books, etc., and came up with $25,000. The second method compared the husband's earning potential in that area of the country as a white male over a 25-year period, both with and without his medical degree. The difference was $624,000, which was brought back to present value using two different discount rates.

In this case, surprisingly, the wife asked for the $25,000 which she thought represented the value of her support. The court granted it, saying, "Both parties sacrificed so that he could become a doctor. In a sense, his medical degree is the most significant asset of the marriage. It is only fair that she be compensated for her costs and foregone opportunities resulting from her support of her husband while he was in school"