Relationship breakdown is an all too common feature of modern society and the legal and financial issues which arise are often complex, particularly where a family business is involved. Until recently, divorce was rarely contemplated until it happened. However, we are increasingly seeing family business owners seeking ways to minimise the damaging effects of a divorce within the family, much in the same way that they plan for other possible eventualities such as illness or death. Similar principles also apply to the breakdown of civil partnerships.
What happens to an interest in a family business on divorce?
All of a couple’s interests will be taken into account in determining a financial settlement on divorce including any interest in a family business, along with the other assets such as houses, pensions or investments.
The first task is to establish the value of those interests. Where there is co-ownership of a business, particularly with other family members, this is often a difficult and expensive issue to resolve and discounts for minority interests and liquidity frequently become the key issues. Even experts brought in to assist will often disagree. If an agreement cannot be reached ultimately a court may have to impose an arbitrary decision.
After considering value, the next stage is to decide what happens to the assets, including any business interests. In the absence of agreement, a court would divide them to achieve what it regarded as a fair settlement. This is done by applying a series of discretionary principles rather than fixed percentages or rules and inevitably the outcome is difficult to predict.
The court has wide ranging powers to redistribute assets as it sees fit and the starting point is usually to achieve equality. Although a court will often look to protect a business, they can transfer a spouse’s interest in it or make orders that require a spouse to obtain a distribution of funds from it, or require the interest to be sold. The impact on the business can therefore be very significant.
What can be done to protect the family business?
Various steps can be taken to limit a family business’ exposure to a divorce. The specific circumstances will determine which are appropriate and in our experience any advice taken should be across the board, combining asset protection with financial and taxation advice to ensure that the steps being taken meet the family’s objectives.
- Pre or post nuptial agreements: It is possible for a couple to enter into an agreement either before or after they marry with the aim of protecting the family business, often by ringfencing any interest in the business from a financial settlement. lthough these agreements are not currently absolutely binding, they are presumed to apply, provided they are done properly. The Law Commission has this year published a report with draft legislation to elevate their status and if the changes are accepted, it would mean that such agreements could be contractually enforceable, provided that the couple’s needs have already been met. Even if the changes are not accepted these proposals are likely to be influential. Case law already shows the significant influence these agreements have on divorce settlements. We are preparing more and more of these agreements in conjunction with the passing on of shares or business assets to the next generation.
- Controlling the ownership of shares: Family shareholders of a company can establish a policy that shares in the family business can only be held by members of the original family, not their spouses, and that if such shares are required to be sold they must be offered to original family members only. The company’s articles of association could also provide that shares transferred to a spouse should be bought back by the business in the event of a divorce. The court will always retain a discretion to make orders over any shareholding owned by either of the divorcing couple but at the very least such provisions may be influential.
- Involving Trustees: Instead of transferring shares outright to spouses or family members, consider transferring them to trustees to hold for their benefit. This cannot be guaranteed to take them out of account on divorce, but adds a further layer between the interest in the family business and the divorcing spouse and will make a claim by them that much harder.
- Not getting married or not entering into a Civil Partnership: This is the greatest available protection, provided the spouse or partner has no interest in the business themselves, as cohabitants do not have the same rights as spouses.
It is often possible to combine different steps to achieve greater protection, but early advice is recommended in every case as the options are reduced once a divorce is underway or imminent.