One question we get asked a lot from clients and potential clients is “How to protect your business assets in divorce?”
Even under the most amicable scenarios, divorce is still a hardship for all parties involved. Aside from the substantial emotional turmoil, there is also the need to unwind a couple’s assets and finances so they can go about with their separate lives. One factor that often complicates this process is when one or both spouses own and operate their own business.
From the standpoint of Illinois law, a business is just another asset that is subject to property division by the court–assuming the parties are unable to agree to a settlement beforehand. Of course, if you are the spouse whose business is affected, you might not see things that way. You see the business as yours and yours alone and may not understand the need for your spouse to take anything from it.
So how can you protect your business asset before and during a divorce proceeding? While every situation is different, here are some basic principles to keep in mind to protect your business assets in divorce.
The first thing you need to consider is how a court will actually classify your business. Not all assets are necessarily marital assets. That is to say, it is possible for you and your spouse to retain separate ownership of property throughout your marriage. Such separate property is not subject to property division during a divorce proceeding.
The general rule in Illinois is that any assets acquired by a spouse prior to marriage remain separate. Conversely, any assets acquired during the marriage are considered marital assets. So if your business existed before you got married, and your spouse was never a co-owner or partner, then odds are good it will be treated as a non-marital asset in the event of a divorce. However, if you started your business after you got married then it is likely to be considered a marital asset, even if your spouse still played little or no active role.
Of course, there are exceptions and caveats to these general rules. For instance, if you set aside some money before your marriage and exclusively used those funds to purchase a business after you got married, then the business can still be plausibly considered a non-marital asset. Similarly, if you inherited money from a relative during your marriage and used those funds to start a new business, that could also be considered a non-marital asset. The reason for this is that any property you inherit, even during a marriage, is considered separate property in Illinois.
h2>< Importance of Prenuptial and Postnuptial Agreements
Another key consideration in determining whether a business is a marital or non-marital asset is the existence of a valid prenuptial or postnuptial agreement. You may be familiar with the concept of a prenuptial agreement: It is a contract entered into by non-married persons in anticipation of marriage. A postnuptial agreement is the same thing, only it is signed after the marriage has already taken place. As far as Illinois law is concerned, they basically do the same thing and can protect your business assets in divorce.
Prenuptial agreements often specify how the parties will divide marital property in the event of a divorce. But they can also clarify what property is considered marital or non-marital. This can prove especially useful when it comes to protecting a business. In other words, if you have an existing business, a prenuptial agreement can clarify that the business will remain non-marital property, so your prospective spouse is not entitled to any share of the business should the marriage end in divorce.
Up to this point, we have assumed that one spouse owns and operates the business with little input from the other spouse. Of course, there are plenty of situations where both spouses co-own or run a business together. Obviously, this presents a greater legal and financial challenge in the event of a divorce.
Again, a well-drafted prenuptial or postnuptial agreement may be useful in spelling out how the parties will deal with such a scenario. The parties may also have separate legal agreements in place with respect to the business. For instance, if the business is organized as a partnership or a limited liability company, there should be a written partnership or operating agreement, respectively, in place that explains how one party may exit the business. You might think it unnecessary to have formal written contracts in place for a family business, but again, such documentation can prove quite beneficial should the personal relationships between the business partners break down.
Even if divorce is not immediately on the table, there may still be cases where one spouse no longer wishes to actively participate in the other spouse’s business. This is why it is essential for both spouses to have a legal “exit strategy” in place to ensure the continuity of the business.
But let’s say there are no agreements in place and the spouses end up in divorce court. What happens now? Basically, the court needs to decide upon an “equitable division” of all marital assets, including any business assets. Equitable does not mean equal, i.e., the judge will not necessarily divide everything in half. Instead, the court must consider a number of factors spelled out in Illinois law.
One factor to keep in mind is that the judge will look at either spouse’s contributions to the marriage as a homemaker. What does this have to do with a business? Put simply, even if one spouse was solely responsible for running the business, the judge will still consider the other spouse’s work in staying home and caring for the children as a “contribution” to the success of that business. The judge may also look at any off-the-books or informal contribution made by the other spouse. For example, if the spouse worked a couple of days a week at the business, that contribution must be accounted for.
The court will also look at the overall economic circumstances of each spouse before and potentially after the marriage. Remember, a judge is not going to leave one spouse completely destitute and unable to support themselves financially. If a business was the family’s sole or primary source of income, the court will take that into account when fashioning an equitable division of property.
Another thing to keep in mind is that before a court can properly consider an equitable division involving a business, these assets must be properly valued. Indeed, even if the spouses choose to negotiate a settlement, everyone still needs to be on the same page when it comes to estimating how much the business is worth.
Business valuation is often easier said than done. Each spouse will often hire their own expert appraiser to come up with a number. If the dueling experts cannot resolve their differences, the court can appoint its own independent professional to make a final appraisal.
And even when the spouses agree to a common appraisal, it is just as important for everyone to agree on a method of valuation. It turns out that there is more than one way to estimate the value of a business. Some of the more common methods include:
Proper business valuation is particularly important when it comes to “buying out” the other spouse’s interest. Again, a judge is unlikely to divide a business asset in half the way they would, say, a savings account. If only one spouse plans to continue the business post-divorce, it is impractical for the other spouse to retain any interest. At the same time, the spouse retaining the business may not have sufficient cash flow to simply cut a check to the other spouse for their share.
One way to address this situation is to negotiate with other marital assets. For instance, the spouse retaining the business can agree to give up a disproportionate share of other, more liquid marital assets, to compensate the other spouse for her interest in the business. This allows the business to remain intact while ensuring the other spouse does not walk away with nothing.
Aside from issues of child custody, protecting business assets are often the highest priority for couples engaged in the divorce process. Given the financial and legal stakes, it is important for each spouse to work with their own qualified Naperville divorce attorney who can best represent their respective interests. If you have questions about how to protect business assets in divorce contact Keller Legal Services today to schedule a free initial consultation.