Generally, a limited company is not protected from divorce, regardless of whether it is set up before or after a marriage takes place. During divorce proceedings, a company is treated just like any other financial asset, which means that company shareholdings and profit are considered matrimonial assets.
In this post, we look at the way the courts view business interests during a divorce, the different options available for negotiating marital assets, and the practical steps you can take to protect your limited company.
This post is written with reference to the laws in England, Wales, and Northern Ireland. In Scotland, the courts will only include business interests in the matrimonial pot if they are acquired during the marriage.
Limited companies and divorce
When a couple chooses to divorce, the courts will usually consider business interests as part of the relevant assets of the marriage. This applies to all types of businesses, including sole traders, partnerships, and limited companies.
However, this doesn’t necessarily mean that the business itself has to be split up and shared between both spouses. Every case is different, and what happens to a company depends on several factors, including:
- Does the business belong to both spouses or just one?
- Are both parties involved in the company? If so, in which capacities and to what extent?
- Has profit from the company been used to sustain the couple’s shared lifestyle?
- Are any business assets secured against the marital property?
- How much is the business worth?
- What other assets does the matrimonial pot contain?
There are several options available when it comes to dividing a company during divorce and ensuring that it remains under your ownership and control. You can achieve most of these solutions by negotiation.
1. Giving up alternative marital assets
If only one spouse is involved in the business, the courts will generally try to maintain the existing status, rather than order the company owner to give up or share their business interests.
In such instances, the couple will usually have to negotiate over alternative marital assets (e.g. the family home, savings, and investments) equal to the value of the business, ensuring both parties receive a fair settlement. This is known as ‘offsetting’.
However, the courts may deem it necessary to divide ownership of business interests if the marital pot does not contain sufficient alternative assets. This can be achieved by one spouse transferring some of their shares to the other.
2. Buying out the other spouse
If both spouses own and control the business, it may be best for one party to buy out the other. Doing so would provide a clean break and enable the business to continue operating under the sole ownership and control of just one of the parties.
Ideally, the company’s articles of association and shareholders’ agreement will include pre-emption rights and provisions setting out exactly what should happen in the event of a divorce.
This is one of the reasons why it is so important to have comprehensive articles and a properly drafted shareholders’ agreement when you set up a limited company.
3. Providing spousal maintenance
Another option is for one spouse to provide the other with spousal maintenance from the company’s income, either indefinitely or for a fixed period of time.
This may be the best solution if the company has been sustaining the couple’s shared lifestyle throughout the marriage.
Such an agreement ensures that whilst the business remains under the control of one spouse, the income it generates continues to support both parties financially.
4. Selling the company
Generally, the courts prefer to maintain a company’s existing ownership status and compensate the other spouse with alternative marital assets.
However, this is not always possible. In rare instances, the courts can order a company to be sold if it is the only way to reach a divorce settlement that is fair to both parties.
Selling a company may also be the only option if it is jointly owned and operated by both spouses, and neither one agrees to transfer their shareholdings to the other.
What’s the best option?
No two divorces are the same, so there is no single solution for dealing with personal and business assets acquired before or during the marriage.
You will need to take independent legal advice, obtain an expert valuation of the business, and seek specialist guidance on the potential tax implications of any divorce settlement.
Valuing a company during divorce
When deciding what to do with a company, the first thing that the courts must establish is the value of the business interests in question.
Valuing a company can be complex, costly, and time-consuming. Nevertheless, obtaining an accurate valuation is vital to ensure the divorce process is fair, transparent, and as straightforward as possible.
The most common way to value a company during divorce is to appoint a single joint expert (i.e. one independent financial appraiser) to work on behalf of both parties. This is far more efficient and cost-effective than each spouse arranging separate appraisers.
When establishing a valuation, the single joint expert will consider various aspects of the company, including:
- Business assets – This is everything that the company owns (such as property, equipment and stock, cash in the bank), as well as turnover, profit, and liabilities.
- Cash flow – Based on a company’s current income, cash flow forecasts are sometimes used to estimate how profitable a business will be in the future.
- Comparable analysis – This involves assessing the value of other similar businesses to determine the relative value of the company. It is a useful approach if the company does not have many assets, or when cash flow forecasts cannot be achieved.
The appraiser will provide an accurate and up-to-date valuation of the business, which will determine the figure that is added to the matrimonial pot.
How to protect your company from divorce
There are a number of steps that you can take to protect your company from divorce. To be effective, these really need to be put in place as early as possible.
Prenuptial and postnuptial agreements
Prenuptial and postnuptial agreements are contracts that a couple enters into before or after they get married. The agreement stipulates how each person’s assets, including property and business interests, are to be divided in the event of the dissolution of marriage.
These types of agreements are not automatically legally binding in the UK. However, the courts will enforce the agreed terms in the vast majority of divorce cases, provided they are fair and reasonable.
Additionally, the courts must be sure that both parties received independent legal advice and chose to enter into the agreement of their own volition.
Do not involve your spouse in the company
It is common for small business owners to transfer or issue shares to their spouses, appoint them as directors or company secretaries, or hire them as an employee.
Whilst doing so can be beneficial for tax purposes, it can give rise to the argument that your spouse participated in the company’s success and has a legitimate claim on the business. In certain situations, it can also lead to employment law claims.
You should also try to avoid other types of indirect involvement, such as accepting materials, free labour, expertise, or money from your spouse for the business.
In the event of divorce, this clear separation will help to strengthen your case as the sole owner of the company. However, the courts will still include the value of the business in the matrimonial pot.
Keep business and household finances separate
Try to avoid blurring the line between business finances and household finances.
You can use your salary income however you wish, but keep company profit in the business instead of using it for the benefit of the household.
This includes paying the mortgage on the marital home, buying a family car or holiday property, and funding vacations.
You should also avoid using your family home or other marital assets as security against business loans.
Can I sell my company if I am getting a divorce?
Unless your spouse has ownership rights, you are free to sell your company whilst separated or in the middle of divorce proceedings. The status of the marriage has no impact on your right to make business decisions.
Care should be taken in such situations. Any attempts to transfer, conceal, or dispose of business assets will be heavily penalised by the courts.
The proceeds will also be deemed a marital asset, which means that your spouse may be entitled to some of the profit or alternative compensation.
Can I set up a company during a divorce?
You can set up a company whilst going through a divorce. However, the courts may still take it into account as a marital asset.
Divorce proceedings can take many months, sometimes even years, during which time the financial position of spouses can change.
But putting your life on hold for an indeterminate period of time is not always an option.
To minimise the likelihood of your new business becoming part of the financial settlement on divorce, you should consider entering into a separation agreement.
This document should be drawn up by an experienced legal professional, and both parties should seek independent legal advice before agreeing to it.
Dealing with business interests in divorce is a complex matter, even in the most amicable of cases. However, there are steps you can take to protect your limited company and increase your chances of retaining ownership and control of the business.
The situation may be more complicated when spouses own and manage a company together. Comprehensive articles of association and a well-drafted shareholders’ agreement are essential in such cases, to ensure that both parties are protected.
Whatever the circumstances, you should seek specialist legal advice as soon as possible, to avoid losing control of your business. Your solicitor will provide tailored advice, discuss potential tax implications and other additional costs, and work in your best interests to reach an acceptable resolution.
If you have any questions about this post or any other matters relating to limited companies, please leave a comment below or contact our expert team.