The timing of business valuation is important.
When a business owner divorces in Indiana, the business is most often inventoried as a marital asset, and must be valued for purposes of equitable distribution between husband and wife. The date of valuation can be a critical issue.
Indiana uses the date of filing as the date defining what is in the marital estate, but then traditionally looks to a valuation date closest to the date of final hearing when the actual division of assets is to take place. Justification for this is generally the discretion of the trial court in determining an equitable division of assets between husband and wife.
Evidence developed through discovery while the case is pending, and legal argument based on the evidence, supports a valuation date closest to the date the division of assets is to occur, which is generally final hearing. However, there are good reasons why an earlier valuation date, closer to date of filing, or date of separation, should be used instead with the family business.
Where one spouse is in operational control of the business, there may be the temptation to allow divorce issues to influence business decisions, resulting in a decline in business activity, or the passing on available business opportunities. There is plenty of anecdotal evidence of sole proprietors and other business owners reporting a significant decline in income derived from the business at about the time a divorce is filed, and thereafter. This phenomenon has sometimes been referred to as a case of “divorce flu” from which the business owner not surprisingly rapidly recovers as soon as the final decree is issued. Allowing for an earlier valuation date is a counterbalance to this phenomenon.
Aside from the misbehavior of an owner, another common reason for date of filing valuation is where the financial performance and value of the business is primarily dependent upon the individual efforts of the business owner. Where the parties have separated in fact, or where the jurisdiction presumes a separation as a result of filing, such as Indiana, profits or enhanced value resulting from the efforts of the business owner generally are considered separate property, and not part of the marital estate. The justification of course is that with the family business operated by one spouse, its value is generally a reflection of the personal skill, industry and guidance of the operating spouse.
Where both spouses are active in the operation of the business, the same argument now supports the use of the trial date as the valuation date, since the value as of the trial date is a reflection of the joint efforts of both spouses in the operation of the business. Every effort should be made to arrive at an agreed date of physical separation to facilitate a business valuation that both parties can agree upon.
Does this settle the issue of the valuation of the family business for the division of property in the divorce? No, it does not, because even though an increase in value of the business during the separation period may be considered separate property of the business owner, there is still the question of whether all of the increase in value during the separation period is attributable to the owner, or also to other factors, such as greater demand for the business’s services, or greater market share due to the exit of a competitor.
If these factors, or others like them, are present, then the valuation must try to isolate the contributions to increased value during separation derived from the owner, and resulting from external business conditions favorable to the business. This can be exceedingly difficult as it is fact sensitive, and may involve both micro and macro economic considerations, such as a move to a more favorable location, or the deregulation of a whole industry.
Paul A. Leonard Jr. is a partner in the law firm of Burke Costanza & Carberry LLP. He practices exclusively in the area of family law, with emphasis on traditional client representation, and mediation. He is a Certified Family Law Specialist by the Indiana Family Law Certification Board, a Fellow of the American Academy of Matrimonial Lawyers, Past-Chair of the Indiana State Bar Association Section of Family and Juvenile Law, listed in the Family Law section of The Best Lawyers in America since 2007, and is also listed in Indiana Super Lawyers since 2004.