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Dividing a Business: What You Need to Know About Valuation in Divorce

When it comes to dividing assets and liabilities in a Texas divorce you and your spouse are going to need to spend some time figuring out how to split these entities up via a process known as community property division. If the two of you cannot figure out a way to resolve these issues yourself, the next step in the process will be to go to the court where a judge will decide on these subjects. First, the judge will determine what property belongs in the community estate and what property belongs in either of your separate estates. Separate property cannot be divided in a divorce.

Once all your community property has been classified a judge will need to refer to the fair market value of the property to figure out how much property is at stake as far as division is concerned. When we talk about dividing up community property this means that the more a judge must divide the more you need to have a well-thought-out and organized plan as far as different ways to divide the property is concerned. You can make arguments as far as the fairest way, in your opinion, to divide up this property. Your spouse will do the same. The judge will then consider all the circumstances of your case and decide how to divide the property.

Some items will be easy to determine their value. For example, your checking account has a value that is simple to figure out. All you need to do is provide the balance at the time of your divorce to the judge and he or she can determine how to fit that asset within the rest of your case. The face value of the account is its actual value. There are no arguments to be made that the bank or credit union has any role to play in its value. What’s in the account is the value. Simple as that. You can move on to the next asset.

Your family home is an asset that is frequently divided in the divorce because of a sale of the home. Many times, the house payment will be more than either you or your spouse can make on your own. As such, even though there will be family memories in the home and other sentimental reasons why the house will be difficult to divide it is frequently ordered by judges that the home be sold. Selling the house is often a financial necessity and is also simpler for the parties to deal with than having one spouse keep the home. Keeping the house means paying the other spouse equity out of the house, sometimes refinancing the mortgage, and other issues that go into keeping a house. A judge will often set the conditions for the sale of the home so all that would be left for the two of you to do is select a realtor and go from there.

The value of a house is not difficult to ascertain, either. While there is more to valuing a house than there is valuing a bank account there are so many homes in our area that it is not difficult to determine a value for your home. An appraisal can be performed by a real estate agent or an appraisal company. You can go online and look up any of the realty websites to determine what houses are selling for in your neighborhood. In any event, figuring out the value of a home is not as complex as many other types of assets.

An example of an asset that is more difficult to determine the value of is a small business. While the business valuation may become an issue in your divorce it is something that you all will be left to negotiate over since there are so many different methods that can be employed to value the business that you own. Depending upon whether there are comparable businesses in your area it could be that it is hard to come by a fair assessment of the value of your business. However, you must learn as much about this issue as possible if you are an entrepreneur or are married to one. The small business that you or your spouse own can become one of the most important and valuable assets in your entire case.

Community property

Whether the business is classified as separate, or community property is a question that you need to answer at the beginning of your case. If the business is someone’s separate property, then there is no use in even having this conversation. Separate property, as we have already covered, cannot be divided in a divorce. However, if the business is community property, then it would be subject to division. If your business was started during your marriage with community income or funds, then it is likely to be considered community property. The default rule would be to divide the business 50/50 but there are almost always circumstances that cause this to not happen. For one, dividing up a business may not be equitable if other assets can be divided up more readily. It is not easy to divide the individual components of a small business especially if yours is a startup or “tech” company that does not have much in the way of tangible assets. In that case, there may be other assets that you all own which are easier to divide rather than having to go through with the time and expense of figuring out the mechanics of dividing a small business.

To determine whether your business is a community or separate property you will first need to figure out the date of your marriage. Once you have that covered you would look to see when your business was created or acquired. How did you start the business? What funds were used to purchase or build the business? If you used separate property income or funds to do so then there is a good chance that the business is separate property even if it was started during your marriage.

The other factor that a judge will look to when determining whether a business is a community or separate property is the degree to which you and your spouse worked within the business. For example, if your business was started during the marriage with community funds then it is very likely to be classified as community property. However, whether a judge would divide that business up depends in large part on whether you and your spouse both worked within the business or contributed “sweat equity” to the creation of your business. If your spouse never worked within the business, contributed to its opening, or otherwise played a part in operating the business then the judge would use this as a factor when it comes to figuring out how to divide the company.

Even if the business was created before the marriage that does not mean that your spouse would not have an interest in a portion of its value. Let’s take a hypothetical example to make this point more clearly. Suppose that you owned a business with your dad- an electronics business. During your marriage, you invested $40,000 worth of community property income into renovating the building where your business was housed. As a result of that investment, the business becomes more profitable. With that in mind, your spouse would start with a 50% interest in the community property income that was used to invest into the business as well as any increase in value to the business that resulted because of the renovations to your business location.

Valuing a small business

The next step in the process once you have determined that a small business is going to be part of the community estate is to determine what the business is worth. This is not a simple equation. The value of a small business depends on several factors just like the value of your home. However, the home has thousands of comparable assets around your community by which a value can be ascertained. A small business does not have comparable assets most likely. This means that there are going to be competing methods for valuing the business that will be considered. Your job is to be able to walk through what those methods are and then work with your spouse to select the best method, all things considered.

Businesses often have the equipment and other physical objects that are worth money. Computers, inventory, equipment, etc. Bear in mind that both attorneys in your case will be making competing arguments as to the value of the business. Your attorney may be arguing that the value of the business is relatively low while your spouse may be arguing that the value is higher than it is. This way, even if the business itself is not divided up in the divorce, other assets that have a more tangible value (like the house or investments) will be divided and a larger chunk would go to your spouse to give her an equivalent value for the business.

In some situations, the small business may not be that valuable. When you and your spouse can both agree that the business is not a major asset and is more along the lines of a hobby than a business then you all may be able to assign a value to the home and then move on in your analysis quickly. You can then focus your attention on assets that are more substantial and offer more in terms of value to your family. However, if the business is a more asset than you otherwise would have thought then you all can and should spend some time determining how to value the business and ultimately whether you need to divide the business up according to the circumstances of your case.

You and your spouse may be in your mid-20s and going through a divorce. Your spouse is a stay-at-home mom, and you work as a small business owner where you take home about $60,000 per year. You decided to file for divorce and things remained friendly between the two of you. There were problems in the marriage, and it seemed like a divorce was a reasonable path to take for the family. You filled out a financial disclosure form at the beginning of your divorce where you said that your business was worth $100,000. As a result, the judge ordered that you pay your spouse $150,000 as a fair and equitable division of your community property estate.

You pay that amount of money to your spouse and move along with your life. As luck would have it, your business starts to take off after the divorce is over. You wind up selling the business to an investor for over a million dollars. You knew that your business was worth a lot of money the whole time. However, you filled out a financial disclosure form that listed your interest in the business as not being nearly as valuable as it was. What sort of lesson can this provide to you and your spouse for the divorce process?

Whatever else is going on in the divorce it is important to take the process of valuing your business seriously. We know that there is more to a divorce than a small business valuation. However, when you decide how to divide up a small business the valuation method is important. Pay attention to the details and be sure to dig as deep as you can when it comes to valuing the business- especially if you are the spouse who does not work within that business. You are at a disadvantage when it comes to this subject since you do not know how to properly assess all the different inputs and outputs of the business. As a result, you are going to suffer if you do not take the time and effort to evaluate the business and its overall worth.

The methods of valuing a business

The asset approach, the income approach, and the market approach are the three main methods that are employed in divorce cases for valuing a small business. The asset approach will calculate the value of your business by taking your liabilities and subtracting them from your assets. There are two types of assets- tangible and intangible. Tangible assets are those that are related to the business which you can wrap your arms around (literally). Intangible assets cannot be held in your hand, but they can be measured even if they are not physical.

An income approach to valuing the business can use past data to try and predict what the value of the business is going to be in the future. What the economic climate will look like, what the risk level of the business is and other factors are also going to be utilized. Of the three different methods that are commonly used to value a small business, this is probably the most frequently used.

Last, the market approach will calculate the value of the business by making a comparison to other similar businesses in your area that have recently been sold. We see this method used in real estate, for example. The tricky part comes into play if you have a unique business or if there simply isn’t a similar business around in your area to compare yours to. This may be a drawback.

Closing thoughts on valuing a small business

If you are trying to value a small business, it pays to do your homework. Looking into an expert like an accountant to provide you with the value of your business may not be something that appeals to you now but in the long run, it can be a good decision to make. Figuring out the value of the business can be difficult, and it is not always something that your attorney can do. You may need to spend the money on an independent voice to help you move past this issue.

You should also remember that the value of the business is going to be an issue in the community property division aspect of your divorce but in your life after the divorce has come to a close. Do not assume that your life is going to look a certain way after the divorce. Rather, you should start to take into consideration what impact your business can have on your life post-divorce. If you are anticipating that your business could take off after the divorce, then you should do what you can to protect it and then set yourself up for success once the case is done.

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