If you or your spouse has a business or professional practice and you’re getting divorced, you may need an expert to determine what the business is worth. Valuations can be complicated because, generally, an expert must conduct a forensic analysis of the income and expenses of the business. In addition, there are different approaches used to value businesses depending on the circumstances. An experienced expert is essential to help ensure an appropriate business valuation so that a fair buyout of the non-titled spouse’s interest can be achieved for the divorce settlement.
How Are Businesses Divided in Divorce?
Businesses and professional practices are “active assets” meaning they are assets that a party actively worked on regularly during the marriage resulting in the asset’s growth or appreciation. When dividing active assets, the law looks at how much the non-titled spouse contributed to the business to determine what percentage share that spouse should receive in divorce. The contributions may be direct (ex. working in the business) or indirect (i.e., working in the home or making contributions through other work).
Where the business was started before the marriage, the non-titled spouse can only receive a percentage of the appreciation of the business from the date of the marriage to the date of the divorce action. If the business was started during the marriage, the non-titled spouse can claim a percentage of the value of it from the start of the business to the date of filing of the divorce.
What Factors Are Considered in Valuing a Business?
When valuing a business or professional practice, the Internal Revenue Service’s Revenue Ruling 59-60 considers many factors including:
- The nature of the business and the history of the enterprise from its inception.
- The economic outlook in general and the condition and outlook of the industry in particular.
- The book value of the stock and the financial condition of the company.
- The earnings capacity.
- The dividend-paying capacity.
- Whether or not the enterprise has goodwill or other intangible value.
- Sales of stock and the size of the block to be valued.
- The market price of stocks of corporations engaged in the same or similar line of business having their stocks traded in a free and open market, either on an exchange or over the counter.
These generally lead to a determination of Fair Market Value.
What Approaches Are Used to Determine Fair Market Value?
In calculating Fair Market Value, typically three main approaches are used: the Income Approach, the Market Approach, and the Asset-Based Approach.
The Income Approach values a business by estimating how much money the business is expected to generate in the future. A representative income level is selected that is reasonably reflective of the expected future level of the business and then converted to a present value, at an appropriate rate, which would meet the requirements of a potential investor.
The Market Approach estimates value by comparing the business to other similar businesses bought or sold in the marketplace. It necessarily relies on finding reasonably comparable businesses in a free and active marketplace. Adjustments are made for any differences between the businesses
The Asset-Based Approach focuses on the value of the business’s assets and liabilities. It uses various methods to determine the value of individual assets and liabilities including intangible assets. The most common one is to use the reported balance sheet assets and liabilities generally termed as book value. However, this may not always match fair market value because of accounting rules that apply to book value.
Do You Need a Valuation Expert?
Hiring a valuation expert can be expensive. However, it may be worth it if the business is a large asset or if the non-titled spouse made significant contributions to the business.
If you are considering divorce and a business is among the assets, it is important to work with an attorney experienced in dealing with difficult-to-value assets like this and negotiating or litigating a fair outcome. Contact us to learn how we can help you achieve a positive result in your divorce.
