Can We Use Mediation to Divide Our Business?

Yes, and for most couples who own a business together, mediation is the best way to divide it. A business is not a bank account. It has employees, customers, vendors, lenders and a reputation, and every one of them is affected by how long the divorce takes and what gets said in court. In mediation, the two of you decide what the business is worth, who keeps it, and who works in it, and the business keeps operating while you do.

Why Mediation Is Better for a Business

Litigating over a business usually means two valuation experts, one hired by each spouse, who reach two different numbers. A judge then picks one number or lands somewhere in between, after both of you have paid for two full valuations, depositions and a trial. Mediation avoids most of that. These are the advantages:

• You pay for one valuation instead of two.
• Financial statements, customer lists, pricing and margins stay in the mediation room rather than becoming trial exhibits.
• Employees, customers and vendors are not pulled into depositions or served with subpoenas.
• You control the timing of a buyout, so the business does not have to be drained of cash or sold to pay the other spouse.
• You can structure payments around the business’s actual cash flow.
• You can decide how and when employees, customers and vendors learn about the change.

Is the Business Community Property?

A business started during the marriage is community property, whichever spouse runs it and whichever name is on the paperwork, under A.R.S. § 25-211(A). A business one spouse owned before the marriage is that spouse’s separate property under A.R.S. § 25-213(A). The community may still have a claim to part of that business’s growth during the marriage when the growth came from community effort, such as the owner spouse’s work, or from community money put into the business.

Settle this question before you hire a valuator, because it decides what the valuator is measuring. If the two of you cannot agree, the valuator can value the business both as of the date of marriage and as of the current valuation date, and you can negotiate from both numbers.

Get One Valuation, Together

The best decision you can make is to hire one neutral valuation expert together and share every record with that expert. A joint valuation is less expensive, it is faster, and neither of you can dismiss the result as the other side’s number. Before the valuator starts, agree on the following:

• Who the valuator is. A credentialed business valuation professional, such as a CPA with valuation credentials, is the usual choice for an operating business.
• Who pays the fee, whether from community funds or split equally between you.
• The valuation date.
• What is being valued, including the business itself, any real estate it uses, equipment, vehicles, inventory, accounts receivable, and the debts and lines of credit it owes.
• What records the valuator receives, including three to five years of business tax returns, profit and loss statements, balance sheets, the general ledger, bank and credit card statements, payroll records, loan documents, leases, major contracts and receivables reports.
• Whether the valuation will be binding on both of you or a starting point for negotiation.

Ask the valuator to identify personal expenses paid through the business, such as vehicles, phones, meals, travel and family members on the payroll. Those expenses affect the value of the business, and they also affect the owner’s true income for child support and spousal maintenance. Ask the valuator as well how much of the value depends on the owner personally, such as the owner’s license, relationships or reputation, because that affects what a buyer would pay and how you negotiate.

If one of you disagrees with the report, you can meet with the valuator together to ask questions, have the report reviewed, or negotiate a number between your positions. Any of those costs less than a second full valuation. For a small business, the two of you may also agree on a value without an expert, using the tax returns and financial statements.

Who Keeps the Business?

Usually the spouse who runs the business keeps it and pays the other spouse for half of its community value. There are several ways to do that:

• The spouse who keeps the business gives the other spouse community assets of equal value, such as the equity in the house, retirement accounts or investments.
• The spouse who keeps the business pays the other spouse over time. The agreement should include a promissory note with a stated interest rate, a payment schedule, security in the business or its assets, life insurance to cover the balance, and clear terms for what happens if a payment is missed.
• The two of you sell the business and divide the proceeds. The agreement should say who manages the sale, the lowest price either of you must accept, and how the business is run until closing.
• The two of you continue to own it together. This works only with a written operating or shareholder agreement that covers decision-making, distributions, deadlocks and a future buyout.

The spouse who keeps the business keeps its risk as well as its value, and usually its debts. If the other spouse personally guaranteed a business loan, lease or credit line, the agreement should require that spouse to be released from the guarantee by a set date and should say what happens if the lender will not release it.

Who Works in the Business?

Decide who works in the business as clearly as you decide who owns it, because many couples both work in the business they built. The agreement should answer these questions:

• Will the spouse who is not keeping the business continue to work there, and until what date?
• What are that spouse’s title, duties, salary and reporting relationship in the meantime?
• When do health insurance, retirement contributions, the company vehicle, the company phone and the company credit card end?
• Will there be transition pay or severance?
• Will the departing spouse agree not to compete with the business or solicit its customers or employees, and for how long and in what area?
• When does the departing spouse lose access to bank accounts, passwords, email and client files, and what happens to that spouse’s personal information on company systems?
• How and when will employees, customers and vendors be told?

Agree on the owner’s income at the same time. The business income is often the basis for child support and spousal maintenance, and settling the value and the income together keeps the two numbers consistent.

Put It in Writing

Once both of you sign the written agreement, it is binding on both of you under Arizona Rule of Family Law Procedure 69(a)(1). For a business, the agreement should state who owns the business and on what date the ownership changes, the buyout amount and how it is paid, the terms of any promissory note and security, the release of personal guarantees, and the employment and departure terms for the spouse who is leaving. It should also require whatever transfer documents the business needs, such as an assignment of the ownership interest, an amended operating agreement, and updated filings with the Arizona Corporation Commission.

We mediate business divisions as the neutral mediator for both of you, coach one spouse before mediation, provide attorney review of an agreement you reached elsewhere, and draft the Rule 69 agreement, property settlement agreement and decree.

Talk to Tali

If you and your spouse own a business and have questions about dividing it in mediation, schedule a consultation at bestlawaz.com/talk-to-tali. Tali handles every new client consultation.