Dividing Community Property Businesses
The three most significant assets that people commonly accumulate during marriage are businesses, the family residence and other real estate, and pensions. Upon dissolution or legal separation these assets must be valued and assigned between the parties.
Dividing businesses is typically the most complex issue, and it is a high stakes process. The law surrounding business valuations is complicated, contradictory, and in flux. A core assumption is that an ongoing concern can be fairly valued and divided when the truth is nothing is actually being sold. The most basic way that we value things is by allowing market forces to fix worth: What will a willing buyer pay to a willing seller to buy their business? The problem is that in divorce there is rarely an actual sale of the business in question. Instead, the law creates a fiction that the "in-spouse" is buying the "out-spouse's" community interest in the enterprise. This means that it is the spouse who wants to keep the business - or who is naturally the one to retain it because their efforts and connections really are the business - that is the imaginery buyer. Usually the other spouse has no ability to buy the primary spouse out because as a practical matter they lack the ability to step into the business operator spouse's shoes. Many business owners rightly feel that no one else can run the business as they have and believe that the business goodwill that keeps it afloat evaporates if they quit. They balk at the idea that they should reimburse the community or divide the business asset with their spouse by a payment of cash or a set off from the division of the other property, but this is exactly what courts typically require.
Business divisions can be complicated by a host of circumstances. What happens if a business was already established at the date of marriage but continued throughout the marital relation? What happens if a business was established during the marriage, but it is now two years or more since the parties separated and during that two years the business began faring much better, or much worse?
The first question with businesses in divorce or the dissolution of domestic partnerships is: Do we characterize the business as community or separate property, or is it a combination of both? Businesses formed during marriage are presumed to be community property. If the company is a corporation it generally does not matter that the stock was issued to one spouse in their name alone (unless their has been a transmutation from community to separate property). If the business was formed before marriage it begins as separate property, but then it must be apportioned between separate and community values. Carrying on a business after the date of marriage involves often one spouse contributing their time, skill and efforts to maintaining and growing the business - and these efforts belong to the community in the absence of a prenuptial or other agreement declaring otherwise. After separation the contribution of time, industry and energies is separate property that is not supposed to be divided.
What are the Fundamental Tasks to Dividing a Community Property Business?
In all cases where the is a dispute over the division of a community property business there must be a business valuation in the absence of an agreement between the parties. Business valuations are an arcane specialty within forsensic accounting. There is no bright line rule of thumb that gives a simple one-size fits all to this valuation.
Tasks that must be considered and undertaken in cases involving the division of business assets include:
- Whs is going to perform the valuation? A joint expert? Two sets of experts? An expert appointed by the court?
- What method of valuation is to be used? Book value? Adjusted book value? Capitalized earnings? Excess earnings?
- What date is used to fix the value of a business? Do we use the date of separation, the date of trial or settlement, or some other date?
- Are there other dates upon which a business must also be valued, such as the date of marriage for businesses that were already in operation at that moment? We may need to know both the separate property value and the value at a later point in time after marriage or after separation.
- What elements of the business should be valued? Does the business own real estate? What is the value of personal property and equipment, work in progress, accounts receivable, inventory and goodwill? What is the effect of depreciation?
- Does the concept of goodwill apply to the business at hand?
- What happens if there are business partners or non-marital shareholders? How are they affected?
- What are the differences between valuing professional businesses and non-professional businesses?
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If the business was owned by one spouse prior to marriage and so it is that party's separate property, how is the community share of the business determined? Do we use a Pereira or a Van Camp approach?
- What valuation method do we apply when post-separation the business continues to be used and operated by one spouse to the exclusion of the other, so that the primary spouse is benefitting from its continuance after the parties have separated?
- Are there tax ramifications and how do they get allocated?
- Should questions about valuing and dividing the business be bifurcated from the rest of the case and be tried or decided separately?
Navigating these issues and options requires experienced competent legal and accounting support!
The Law Firm of Thurman W. Arnold III welcomes complex business valuations
and resolving problems relating to the division of these assets.
Contact Attorney Thurman Arnold for a free initial consultation!