Divorce can be an emotionally draining process for everyone involved. To make matters more difficult, divorce can be a legally complicated process, too. Generally speaking, the more assets you and your spouse have acquired, the more complex your case may be.
One reason that high-asset divorces can be complicated is that one or both spouses have ownership in a business. Determining the valuation of the business is often contested and can be a time-consuming process.
Marital vs. separate property
Prior to determining the valuation of the business, it’s important to first determine whether the business is marital property or separate property. If the business was acquired with joint assets, it will likely be classified as marital property. If the business was purchased prior to the marriage or with your own individual assets, it may be defined as separate property.
The distinction between marital and separate property makes a big difference when distributing assets during divorce. Marital property is divided equitably between the two spouses. Any separate property you own will likely remain yours after the divorce is finalized.
Determining the value of a business during divorce
If the business is deemed to be marital property, a fair valuation will need to be determined. Reaching that number can be challenging, especially since spouses often disagree what constitutes a fair valuation.
There are generally three methods that can be used to determine what the value of a business is. These valuation methods are:
- Asset-based approach: An asset-based approach looks at the value of the assets owned by the business, less the liabilities that are on the books. Physical assets like machinery or a company car can be easier to value. Valuing intangible assets like patents and other intellectual property can be more difficult.
- Income-based approach: The income-based approach looks at the cash flow the business generates. The appraiser will evaluate the current and future expected income generated by the business. The appraiser will multiply those earnings by a capitalization factor to determine the value of the business. This process is known as “capitalization of earnings” and is often the method used to value a business.
- Market-based approach: When using a market-based approach, the appraiser will look at what similar businesses have sold for recently. Unless there are a large number of similar businesses that have been sold recently, it can be difficult to get an accurate valuation using this approach.
Valuing a business is rarely a black-and-white issue. Often, there is a lot of nuance used by an appraiser when determining a final valuation. Understanding these valuation methods can help you be better positioned to protect your business during divorce.