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Potential tax liability: Divorce decisions and your business

No matter how tumultuous a marriage is, divorce comes after thoughtful consideration. Yet, that is not to say no questions about the future remain.

Points of contention are common among affluent couples. Entrepreneurship can further escalate disagreements about support and division of assets.

Options to protect your best interests

As a business owner, you may recognize an obligation to provide financial support for your former spouse. However, after working long and hard to create your vision of success, your concerns likely extend to how your marital dissolution could affect your net worth.

In addition to negotiating about houses cars and bank accounts, can you protect your company from your ex's control? In doing so, is it possible to minimize, or even consider your potential tax liability?

Determinations are imperative prior to division

Before you consider whether your former partner should have a stake on-going business operations or in future business profits, distinguish between your separate and marital property. If you started your organization with your own money before you walked down the aisle, only a portion of the value of the business will be marital.

However, that may not be the case. Furthermore, with the probability that your ex will not easily concede, a proper business valuation can help you decide between different choices, three of which include:

  • Sell your business to a third party. One option in divorce is to allow the sale of your business and divide the proceeds in your settlement. If the business will or may sell for more that your original investment in the operation, there may be capital gains taxes resulting from the sale. Accordingly, you must each consider how much tax you will owe on your portion of the sale proceeds. As well, if the business was the source of your income, a sale may mean you lose your job, and your income source. As a result, this may not be a good option for every situation.
  • Continue joint ownership. It may be possible to include co-ownership in your divorce settlement. Both on-going income and tax liability in the event of a future sale could vary depending on ownership percentages, management and market shifts. Although maintaining a professional relationship post-divorce is sometimes difficult, clear written contracts can distinguish responsibilities and rights for those who choose to continue a partnership.
  • Buy your former spouse's interest. Even if your spouse is not formally a joint owner of the business, he or she will have a marital property interest in the value of the business that was accumulated during the marriage. If it is not feasible to sell the business (and lose that source of on-going income) the nonparticipant spouse may be willing to give up their claim in exchange for receiving other assets and/or a lump sum or installment payment arrangement. At least two different kinds of tax considerations apply with this option. First, keep in mind that the payment to the non-participant spouse will generally not be taxable to the parson who receives it or deductible by the person who pays it. Also keep in mind that the spouse who retained the business will still likely owe capital gains taxes in the even the business is sold at some time after the divorce. At that point the ex-spouse will not share in that tax burden.
  • Naturally, the United States tax code is complex. Your specific situation will determine which opportunities are possible, as well as what the repercussions of each choice would be.

While you did not decide to dissolve your marriage for tax purposes, you would be wise to learn about taxes might affect different ways of addressing business ownership. With wise counsel, you can make educated short-term choices for favorable long-term results.

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