Treatment of the Family Business on Divorce
The Treatment of the Family Business on Divorce
By Ginny Colman
Director spouses should worry about the implications an impending marriage or a divorce might have on the family business.
Prior to 2000, director spouses could be comforted with the knowledge that on divorce the Courts were reluctant to make any final order, which would have the effect of the business being sold. The landmark case of White in 2000 brought about a fundamental change in judicial treatment of a business. The Court expressed resoundly the view that in certain cases the business should not be preserved - on the contrary that a sale might be required to finance the divorce settlement for the other spouse. A year later another 'family business on divorce' case. N v N afforded the husband three years to raise a third instalment to complete the financial payment to the wife, the Court knowing that the net effect of this would cause the husband to either sell the business or seek some major financial restructuring.
Historically the Court has been reluctant to incur the expense of valuing a family business. Now the Court wants to see more detailed valuations of the business. Valuing a family business requires an accountant experienced in such matters to be jointly instructed by both spouse's legal teams to ascertain issues such as future profitability, liquidity, avenues for borrowing and overall value, together with tax implications on a sale or transfer of assets within the family business. When neither party can agree on the outcome of the instruction, more expert evidence is required.
When advising clients with a family business how the asset might facilitate a financial settlement the following will be relevant:
- Liquidity: Where the business is owned exclusively by the family and there are significant liquid assets, e.g. cash at bank, this creates the most effective way to fund a spouse's financial settlement. However the removal of liquid assets from the business should not unduly damage the potential for the business to operate successfully in the future. If the business has shareholders outside the immediacy of the family then extracting liquid assets from the business can only be achieved if the remaining shareholder's interests are properly protected.
- The company may buy back its own shares: If for example both the husband and wife have a shareholding in the business the wife could sell her shares back to the company as part of the overall capital settlement, in return for a lump sum funded through the business or other matrimonial 'non-business' assets. If for example the husband has a significant shareholding then he may dispose of part of the shareholding in order to raise settlement funds. Tax consequences of this option need to be considered very carefully and company law requirements observed properly.
- Either party may have loaned money to the company and if this is the case the company could repay these loans through internal funds or commercial borrowing options.
- The company could consider increasing the quantum of salary or dividends paid to one spouse to enable that spouse to secure more preferential private borrowing. That borrowing could facilitate the payment of a lump sum to the other spouse exiting the company. This solution does not come without some obvious problems. Salary related overheads, remuneration, income tax and national insurance are increased. Other company directors might require similar increases in order to balance the effect.
Company directors facing divorce need to be prepared for the fact that the Court is now far more willing to make financial orders which may break up the family business.
It is desirable for anyone who is in business and contemplating either marriage or divorce to take timely advice in relation to their spouse's claims that could be brought, based in part on the value of those business interests.
Ginny Colman is a Solicitor at Kester Cunningham John, Norwich