Untying the knot: how are business loans and debts treated in separation or divorce?
There is an obligation on a couple that is separating to disclose all of their assets and liabilities – including business loans and debts. This ensures that both parties are fully aware of the financial position they are in before dividing up the assets and liabilities of the relationship.
Working out the value of the business
The difficulty that often arises with business assets and liabilities in a divorce is that they can be difficult to value. Unlike residential property, which is fairly straightforward to value, a company that is running a business may have many shareholders, directors and employees with an income derived from the business, and it may also own plant or equipment.
Trying to ascertain what it would sell for on the market can therefore be difficult to establish. Often the easiest way to obtain a business’s market value is to consult an accountant, as well as an expert to value the plant and equipment. Similarly to a residential property, liability must also be factored in.
If the business has a working capital loan or an overdraw facility, these will need to be weighed up against the value of the goodwill – if any – as well as the plant and equipment. In some cases, due to the debt and depreciation of the plant and equipment, a small business may be valued as an income stream, rather than a lump sum value.
Timing of disclosure of business’s assets and liabilities
Disclosure must be provided up to the date of the court hearing, and this will include any business loans, business debts and company information. (Please see Disclosure requirements in family law – what am I meant to provide?)
This means that any business loans and assets are to be disclosed for consideration, even if they were taken out or acquired after separation.
Should you not proceed to court, but there are consent orders prepared, all assets and liabilities up to the date you sign those consent orders must be disclosed.
As an example, if a husband has a business, the business’s financials will be taken into consideration in a negotiated settlement or in a decision from a judge, whether he acquired the business before or after the couple separated.
What happens if one party wishes to retain the business
Should one party to the separation want to retain the business, as is often the case, that person makes an agreed lump sum payment to the other. This payment would factor in their contribution towards the family and asset maintenance, as well as any support or financial contribution they might have made.
In addition, any non-business assets and liabilities of the relationship need to be considered to arrive at this agreement.
What happens if there are third parties involved in the business?
Things can be more complicated if the business involves partnership with third parties, or one of the separating parties is a co-director or shareholder of a company. In such instances, the partnership agreement, shareholders agreement and/or company constitution need to be reviewed and provided to the other party as disclosure.
The agreements or constitution may contain instructions for a specific exit or a valuation that assists in the family law disclosure process.
Financial entanglement doesn’t end upon separation
As in any negotiation, the end outcome will ultimately be what the parties make of it. Parties to a separation should try to remain both commercial and realistic in negotiations. In weighing up your position, you should keep in mind any debts, the associated legal costs and the possibility that the business may end up having very little resale value.
It is also imperative to remember that you remain financially entangled with your partner, even after separation. Your finances do not become separate until the date consent orders are signed, or until the date of the court hearing.
For more information, please see The vital importance of a business exit strategy.