Marital dissolution and the business owner

An International Profit Associates Valuation Article

For many married business owners, their business is the most valuable and most illiquid asset in the marital estate. Therefore, it is reasonable to assume that if owners divorce, the business will be an asset that will spark substantial controversy and conflict between the divorcing parties. Although it may seem a bit pessimistic to suggest ‘planning’ for divorce, the consequences of not planning for any untimely life event, whether it be divorce, disability, or death, can have a devastating financial impact on the business. Unfortunately, or maybe fortunately, there are many gray areas involved in business valuations for marital dissolution.

Many states mandate a particular standard of value be utilized valuing closely-held stock or ownership for divorce purposes. For estate, gift, generation-skipping transfer, and all income tax matters concerning the IRS, the standard of value is Fair Market Value (FMV), with application of appropriate valuation discounts. For divorce purposes, the standard may not be FMV; it could be Fair Value or Book Value and discounts may not be allowed. Although the valuation process for divorce is substantially influenced by a state¹s standard of value, other valuation matters must also be considered such as the particular industry or type of business.

What makes the divorce valuation process even more perplexing is the existing state case law, and judicial discretion influenced by non-jurisdictional case precedents. A court may rule contrary to the established state valuation standards in consideration of particular marital circumstances. For example, one state’s standards may not include consideration for the divorcing owner’s personal goodwill in a professional service operation (i.e., architect, engineer, attorney, dentist), whereas another state may. Some state case law may allow a minority interest discount where the divorcing owner holds less than 50 percent ownership in the business (i.e., there exists a lack of control). Then again, that same state may not allow the discount for a similar owner of a family-owned business based on the nature of the relationship among the owners.

Bottom line: The valuation process for divorce can be complex and fraught with potential errors. A business owner who is contemplating marital dissolution should always seek professional legal advice to determine the scope of the valuation engagement and the necessary course of action. As a matter of policy, International Profit Associates - Accountancy Associates mandates the client’s designate counsel participate in defining the focus for the valuation and the information collection process. Accountancy Associates offers expert witness testimony services. As an expert witness, the valuation professional is engaged to testify on behalf of the business’ value, not the business owner. A business valuation expert will, at a minimum, belong to one of the four professional valuation organizations, and as a member he or she is required to abide by professional valuation standards and practices. Gaining accreditation from one or more of the organizations takes the valuator’s commitment to the valuation profession that much further and business owners would be wise to seek out only an accredited, experienced professional. The National Association of Certified Valuation Analysts (NACVA), American Institute of Certified Public Accountants (AICPA), American Society of Appraisers (ASA), and the Institute of Business Appraisers (IBA) all offer accreditation programs.

What are the Issues? What will the net value of the business be after settlement costs? What is the particular state¹s prescribed standard of value for divorce purposes? Does the business have intangibles and/or goodwill value unaccounted for on the balance sheet? Is one of the divorcing parties a key person in the business? What will the future earnings and tax liabilities amount to?

Legal - Is there a pre-nuptial or post-nuptial agreement in place that addresses the ownership of the business? Is there a purchase agreement in place with third parties? For multiple-owner businesses, including husband-wife ownerships and family-owned businesses, is there a buy-sell agreement in place and does it address divorce? If so, how does the agreement address the issue of determining the value of the business in the event of divorce? Does the agreement consider state divorce valuation requirements, or is a set valuation formula specified? When was the agreement finalized, and have any significant events occurred that change the current circumstances of business operations or ownership?

Liquidity - Will a marital settlement financially harm or devastate the business? With regard to the business, is there sufficient cash on hand, readily available liquid assets, or other funding vehicles to fund a marital settlement without interrupting business operations?

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