Family business and divorce – two things that don’t go well together.
A family business can be lovely to be a part of and work at – but only if the ‘family’ part of the business is going well. An ugly divorce can be devastating to a closely-held family business. In a contested divorce, when litigation is the chosen path, often both sides can end up worse off financially. Add to this the high likelihood of the relationship being destroyed, which is especially devastating when the divorcing couple have children and have been working together. But it doesn’t need to be this way.
Collaborative divorce or mediation are both options that are private, much easier to manage and less expensive (often both financially and emotionally). Generally speaking the Collaborative Process should be less expensive than litigation because there is a focus that isn’t conflict based. At the heart of collaborative law and mediation is a desire to resolve issues without combativeness.
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National American statistics show that of the cases that start collaboratively, more than 80% end collaboratively. Because the process is voluntary, either party may leave the process at any time, but successfully resolving differences and preserving relationships is helpful to everyone. The relationship may be retained in such a way that they can continue working together in the business, sustaining equity and keeping the business feasible for generations to come.
The two parties and collaborative professionals work together to identify issues that need resolution. Instead of being pitted against each other, the Collaborative professionals (often consisting of lawyers, neutral financial adviser and maybe a neutral mental health professional) act more like a team of advisers. It is a process shielded from the public eye and is done transparently and confidentially between only those parties and their ‘team’.
By using one neutral financial professional, the cost to both parties is reduced and the gathered financial information is presented to both for them to decide what to do. At this point the two parties are deciding what to do rather than a judge making a determination for them which often happens in litigation. The financial professional may help gather information not just for the business but also for division of other assets and liabilities, as well as child support.
If a marriage break-up gets to court it has probably become more nasty, especially if a family business is involved. The cost is often considerable.
Family Business, Divorce and The Court
Australians have had plenty of high-profile cases over the last few years, including a close-to-home New Zealand case with a $28.8 million dollar family fortune at stake. It was a case involving a sawmilling magnate, Mark Clayton and his wife Melanie. The fight had been going on for years after they separated a decade ago. The Claytons case eventually got to the New Zealand Supreme Court and the decision was found for Mrs Clayton, that assets held by Mr Clayton’s business trusts were considered within the realm of ‘relationship property’.
Relationship property is typically confined to common assets such as the family home and other jointly owned assets including income and securities, but business assets owned under a trust structure have been off the negotiating table. The case’s outcome looks set to reset current legal boundaries, at least in New Zealand.
Recent changes to tax law in Australia mean that the waters are further muddied for separating couples. In effect, the ATO has deemed that any transfer of property or payment of funds from a private company to members of a couple going through a divorce will be classed as assessable dividends. In the majority of situations it’s likely that a person receiving business proceeds via a Family Court order will be taxed at the top marginal rate (49 per cent).
Where a family business is involved in the process, the outcomes from the Family Court can be completely different to those achieved through mediation. Collaborative divorce has become more commonplace over the past decade. The practicalities and speed of going to mediation have improved significantly and a lot more couples are preferring this than going to the Family Court. Many divorce cases used to go to trial but now people are being educated about the benefits of going to mediation — they’re like mini trials and assisted negotiations that are conducted away from the Family Court and that produce good outcomes for husbands and wives during a break-up.
Whenever a family business is part of the divorce equation there can be major tax consequences if both parties end up in the Family Court to divide up their assets. These include the payment of capital gains tax if a business needs to be sold, and tax on retained earnings.
A protracted and acrimonious divorce can spell the death of a business, but cases that go to mediation rather than court can be settled much more quickly with both parties reaching a resolution and with the business staying intact. If you’ve got a family business it’s the only sensible way to go because it can assist you save tax, whereas the Family Court can’t do that.
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There are ways to prepare your family business for divorce or sale.
- Maintain accurate and up to date financial records at all times.
- Make sure your business never accepts cash in hand payments as these kinds of business practices can be used against you in family court proceedings which will ultimately result in a clear divide between business valuations;
- Consider entering into a Shareholders Agreement with your spouse.
- If you are the sole shareholder/director of a family business and you have other business partners, consider entering into a Shareholders Agreement which explicitly states a spouse or other family member is refrained from taking ownership of the shares in the business.
- Consider entering into a pre-nuptial/post-nuptial agreement with your spouse
- Consider establishing a trust without your spouse being a beneficiary of the trust and then establish a corporate trustee to hold the shares of the family business for the benefit of the family trust.
Whatever your situation, we always recommend a collaborative approach to divorce.
Please contact us today for a free, 10-minute phone consultation. One of our experienced family lawyers would like to help you with any queries you may have.