LEGAL RESOURCES
Business Ownership and Divorce in Texas
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What Happens to a Business During a Texas Divorce?
A closely held business is often one of the most valuable—and most heavily disputed—assets in a Texas divorce. Whether the business is a medical practice, law firm, construction company, restaurant, technology company, real estate business, consulting practice, or family-owned business, determining who owns the business and what it is worth can become one of the most complex issues in the case.
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Many business owners assume that because the business is titled in their name, the business automatically belongs to them.
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Texas law does not work that way.
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The court must first determine whether the business, or some portion of it, is separate property or community property. Only after the business has been properly characterized can the court determine how the community interest should be divided.
The Court Must Determine Whether the Business Is Separate or Community Property
Texas follows the inception of title doctrine, meaning the character of property is generally determined when the ownership interest is first acquired. See Wiggins v. Wiggins, 347 S.W.2d 589 (Tex. 1961).
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If the business was started or purchased before marriage, the ownership interest may be separate property. If it was created during the marriage using community funds or community effort, it may be community property. In many cases, the answer is not simply one or the other.
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Businesses frequently have mixed character. For example, one spouse may have formed the company before marriage, but the business may have grown substantially during the marriage through the efforts of either spouse or through the investment of community funds. These cases often require careful legal and financial analysis.
Business Valuation Usually Requires
an Expert
Unlike a bank account, the value of a business cannot usually be determined by looking at a single statement.
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Texas courts routinely rely on business valuation experts to determine the fair market value of a closely held business. These experts analyze financial statements, tax returns, general ledgers, balance sheets, profit and loss statements, payroll records, customer relationships, goodwill, equipment, real estate, liabilities, and projected future earnings.
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The expert then prepares an opinion regarding the value of the business and may testify at trial concerning the methodology used to reach that opinion.
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In many cases, expert testimony is one of the most important pieces of evidence presented during the divorce.
Fair Market Value Is the Standard
Business valuation experts generally determine the fair market value of the ownership interest.
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Texas courts commonly define fair market value as the price a willing buyer would pay a willing seller when neither is under any compulsion to buy or sell and both possess reasonable knowledge of the relevant facts. See City of Harlingen v. Estate of Sharboneau, 48 S.W.3d 177 (Tex. 2001).
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The value assigned to a business may differ substantially from the amount of cash sitting in the company’s bank account.
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Many profitable businesses derive much of their value from customer relationships, contracts, reputation, intellectual property, equipment, or expected future income.
Different Valuation Methods May Produce Different Results
Business valuation is both a science and an art.
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Depending upon the nature of the company, the valuation expert may apply an income approach, an asset approach, a market approach, or a combination of those methods.
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The appropriate methodology depends upon the type of business being valued. A professional practice, construction company, software company, retail business, or manufacturing business may each require a different valuation analysis.
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It is not uncommon for the parties’ experts to reach significantly different opinions regarding value.
Goodwill Can Become an Important Issue
One of the more complex issues in business valuation is goodwill.
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Texas distinguishes between enterprise goodwill, which belongs to the business itself, and personal goodwill, which is tied to the personal reputation, skill, or future earning capacity of an individual.
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For example, the value of a dental practice, medical practice, or law practice may depend heavily upon the professional providing the services. In many circumstances, personal goodwill is not treated the same as enterprise goodwill when valuing a business for divorce purposes.
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Because goodwill issues are highly technical, expert testimony is often essential.
The Court Usually Does Not Divide the Business
Clients are often surprised to learn that the court rarely orders a closely held business to be physically divided between the spouses.
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Instead, the spouse who owns and operates the business typically continues operating it after the divorce.
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The court then offsets the value of the community interest by awarding the other spouse additional assets such as retirement accounts, investment accounts, real estate, cash, or other property.
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This approach allows the business to continue operating while still providing a just and right division of the community estate under Texas Family Code § 7.001.
Partnership Agreements and Company Agreements Matter
Not every ownership interest can simply be transferred.
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Many corporations, partnerships, and limited liability companies contain buy-sell agreements, shareholder agreements, partnership agreements, or company agreements restricting ownership transfers.
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Some agreements require approval from the remaining owners before an ownership interest may be transferred. Others provide rights of first refusal or mandatory buyout provisions.
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The court must consider these governing documents when determining how to divide the community estate.
Discovery Is Often Extensive
Business ownership cases typically require significantly more discovery than an ordinary divorce.
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Financial records commonly requested include tax returns, profit and loss statements, balance sheets, general ledgers, QuickBooks files, bank statements, payroll records, accounts receivable reports, accounts payable reports, loan documents, business valuations, customer contracts, operating agreements, and other corporate records.
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Complete financial information allows the valuation expert to perform a reliable analysis and helps ensure that all business assets and liabilities are identified.
Early Planning Is Essential
Business ownership cases require coordination between attorneys, valuation experts, accountants, and sometimes tax professionals.
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Obtaining financial records early, retaining the appropriate expert, and understanding the structure of the business frequently determine the success of the case. Waiting until shortly before trial to begin the valuation process often increases costs and limits available options.
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If you own a business—or believe your spouse has an ownership interest in one—you should inform your attorney as early as possible so that the necessary discovery and valuation work can begin.
Fergus & Tomanka Represents Business Owners Throughout Central Texas
Dividing a business during a Texas divorce requires far more than estimating what the company is worth. Proper characterization of the ownership interest, valuation by qualified experts, analysis of governing company documents, and presentation of financial evidence all play an important role in achieving a fair result.
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At Fergus & Tomanka, we represent business owners, professionals, entrepreneurs, and spouses of business owners in complex divorce litigation throughout Central Texas. We regularly work with business valuation experts, forensic accountants, certified public accountants, and other financial professionals to protect our clients’ interests and ensure that businesses are properly valued and divided under Texas law.
Call (512) 291-6952 to setup a consultation with one of our attorneys OR simply Make An Appointment on your own!
These issues can be quite difficult to handle on your own due to the legal complexity and emotionally-charged nature of the proceedings. It’s best to consult with an experienced family law attorney in your area.