When people get married, choose to live together in common-law relationships, or when they separate from their married or common-law spouse, corporate and commercial issues can often come into play. If you or your spouse has an interest in a corporate entity you should ensure to seek advice from a family law lawyer experienced in corporate and commercial issues facing spouses, some of which are discussed in this article.
Jointly Owned Corporations (The Family Business)
If you and your spouse have an ownership interest in a privately held corporation (the family business) you either own it on the basis of a 50-50 share holding, or one of you owns more than 50% of the shares (majority interest) and the other owns less than 50% (minority interest), or you may own with another individual(s).
In the case of 50-50 ownership, both spouses have an equal say on decisions affecting the business unless they have a shareholder agreement saying something to the contrary. In the context of a separation, this can result in deadlock and problems keeping the business running smoothly and profitably. It can also create problems if the time comes for one spouse to walk away from the business and the couple is faced with sorting out who will keep the business if both spouses want it, or whether it simply must be sold or wound up. Determining this either by agreement or court order can be a very complicated matter and may involve a great deal of analysis of the spouse’s roles in the business. Some spouse’s ultimately choose to continue joint ownership, and in those cases, thorough shareholder agreements should be put in place to deal with possible future conflict, job security etc. and may impact the ultimate result of how the rest of the parties’ assets are divided if the spouse’s are married.
In situations where one spouse owns the majority of the shares and the other has a minority shareholding, problems of shareholder “oppression” can often arise. This is when the majority shareholder conducts the business in a way that is oppressive to the interests of the other minority shareholder spouse. For example, not paying out dividends or reducing or eliminating salary and job functions, not disclosing financial information, or managing the business operations in a manner that does not protect the interests of the minority shareholding spouse.
While the courts can help shareholder spouses in these situations, through remedies under the Family Law Act of Ontario and the Business Corporations Act, the remedies available from a court may be very costly to achieve through the litigation process. It is precisely for such reasons that no matter how solid your marriage or common-law relationship is, spouses should have a cohabitation agreement or marriage contract, or a shareholder agreement that deals with exactly these sorts of matters and was drafted with the spousal relationship, and family law legislation in mind. Without one, the consequences can be devastating to the business and to the spouses.
Division of Assets between Spouses and Valuation of Shares
There are also valuation issues that come into play when spouses are separating and dividing property. In some situations, courts have discounted the value of a spouse who owns a minority number of shares on the basis that a shareholding in a privately held corporation which does not amount to a controlling interest has little value on the open market. This can be particularly problematic if one spouse has a minority interest in his or her family’s business with other relatives. The following is an example: Bill and Pat are married. Bill owns 20% of the shares in his uncle’s company. For years the plan was that Bill would ultimately take over his uncle’s business and that time is coming up soon. Bill and Pat separate and are in the process of valuing their respective assets to address property division issues. Bill says his shares are worth very little because no one would buy them and Pat says that Bill’s shares are valuable because essentially, the business is about to become his. In certain situations, the court may value Bill’s shares at less than 20% of the value of the entire business specifically because no third party would ever actually buy Bill’s 20% shareholding in his uncle’s company. This means that Pat may receive less than anticipated through the division of property process due to Bill and Pat’s upon the marriage breakdown. In other circumstances, the court may determine that Bill’s shareholding is actually worth 20% of the value of the business. A similar issue can also present itself where both spouses own shares and one spouse is buying the other spouse’s shares. What value should be ascribed to each spouse’s shareholding?
The analysis is extremely fact driven. The reality is certainly not as simple as outlined here but these are examples of valuation problems for which sound legal and likely accounting advice will be crucial.
Income Determination Issues for Child and Spousal Support
Another common issue that separating spouses are faced with involves the determination of one spouse’s actual available income from a privately held corporation which he or she controls. If you earn income through your own corporation and pay yourself a salary, that salary may not be a true reflection of income available to you for purposes of determining your spousal and/or child support obligations to your former spouse.
It is very common for business owners to retain money in a corporation. This is primarily a tax planning measure and there is nothing wrong with doing so. However, what works for the Canada Revenue Agency and accounting purposes may be far from what is appropriate in a family law situation where support is an issue.
With respect to child support, the Child Support Guidelines include specific provisions allowing for attribution of income to a support payor at a level higher than his or her historical salary and dividend income. Moreover, as concerns the issue of spousal support, courts have determined that the income determination provisions of the Child Support Guidelines should equally apply to the spousal support context as well. Therefore, if a spouse with a support obligation habitually maintains earnings within his or her corporation, those “retained earnings” may (and likely will) be added into that spouse’s income upon which his or her child or spousal support (or both) obligation will be based. This is the case, unless there is good reason why the company must maintain retained earnings for, as an example, cash flow purposes. There is also the problem of personal expenses or benefits that are flowed through a corporation. This again happens regularly. Depending on the nature of the business, shareholders often derive benefits which must be valued in the context of income determination. Experts, such as accountants and business valuators have to be retained to assess what is and what is not required by the company in the way of retained earnings to meet the corporation’s financial needs versus what retained earnings ought to be added back to the payor spouse’s income for support purposes and what expenses ought to be added back into the payor’s income for support purposes.
This article is but a snap shot of corporate and commercial issues which can be faced by parties who are in spousal relationships, separating or not. The circumstances of each business and spousal relationship must be considered which is why it is so crucial to obtain solid legal advice whether you are starting a new relationship or business with your spouse, or whether you are separating.