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Family Law: Transferring Private Company Interest in Divorce—Going Beyond the Basics to Ensure Continued Success and Avoid Conflicts

Family Law: Transferring Private Company Interest in Divorce—Going Beyond the Basics to Ensure Continued Success and Avoid Conflicts

Originally published by Winstead.

There has been considerable speculation that one consequence of the Coronavirus will be an increase in the divorce rate resulting from togetherness imposed by the quarantine that push marriages already on shaky ground over the brink.  Whether divorces will increase in the future due to Covid-19 remains an open question, but what is certain is that a sizable number of future divorces will involve the transfer of a business ownership interest between spouses as part of the divorce.  To address this situation, this post focuses on key business issues that arise when one spouse (the “Divesting Spouse”) transfers an ownership interest in a business to the other spouse (the “Recipient Spouse”) as part of a divorce settlement.  Addressing these issues will help the Recipient Spouse continue to run the business successfully and also avoid future conflicts with the Divesting Spouse, as well as with future investors and potential buyers of the business.

1. Don’t Rely on Divorce Decree or Settlement Agreement to Document the Transfer of a Business Ownership Interest Between Spouses

A divorce decree and settlement agreement will document the terms of the divorce and the division of property between spouses, but it is not a good idea to rely on the decree or the divorce settlement to memorialize the transfer of a business interest between spouses.  There are a number of reasons for the Recipient Spouse to insist on securing a stock transfer agreement (or its equivalent), including the fact that the Recipient Spouse will likely be required to show the transfer document to third parties in the future, including banks or other lenders, new investors, company officers or managers, and potential future buyers.  The Recipient Spouse will not want to show the decree or settlement agreement to these third parties, however, because they include private matters unrelated to the business.  This will therefore require the Recipient Spouse to prepare a heavily redacted document for review by third parties.  It is more efficient to simply require a transfer document to be signed that is limited solely to issues related to the business.

Another reason for the use of a transfer document is that it will include many provisions that are not normally part of a settlement agreement.  The decree or settlement agreement will become a very lengthy document if it includes all of the provision that are traditionally set forth in a separate document that covers the transfer of a business interest.

2. Secure a Separate Release of the Divesting Spouse’s Claims Against the Business

After the business is transferred and the divorce becomes final, the Recipient Spouse will not want to defend claims that are brought by the Divesting Spouse against the business.  This requires the Recipient Spouse to secure a broad release of claims against the business from the Divesting Spouse.  This release of the business is separate from and in addition to the release that the Divesting Spouse provides to the Recipient Spouse, individually.

For example, if the Divesting Spouse was an officer, employee, director or manager of the company, the Divesting Spouse’s release needs to include a release of all employment claims, such as claims for unpaid wages/back pay, vacation time, unpaid expenses, and commissions.  The release will also include the Divesting Spouse’s release all claims for wrongful termination, claims related to the distribution of any profits generated by the company and all other business related claims.  The release will also confirm that the Divesting Spouse has resigned from all positions with the company and has no further right or authority to take any action for or make any statements on behalf of the company.

3. Confirm Broad Transfer of All Rights by Divesting Spouse

The provisions that confirm the transfer of ownership in the business by the Divesting Spouse need to be broadly described in the transfer agreement to include all rights, title and interest of every kind related in any way to the business.  This includes all rights of the Divesting Spouse in any and all intellectual property of the company, such as company names, trademarks, trade secrets and patent rights.  This is particularly important if the Divesting Spouse worked in the business, because the Recipient Spouse does not want to be faced with a situation in the future where the Divesting Spouse later claims that he or she developed some software, designs or other intellectual property rights that are not owned by the business, and which are now being used by the Divesting Spouse in direct competition with the company.

4. Consider Requesting Divesting Spouse to Accept Restrictive Covenants

In a normal M&A transaction, a company buyer secures a set of restrictive covenants from the seller as part of the purchase agreement to prevent the seller from competing in any way with the company after the sale takes place.  The buyer will require the seller to provide all of the following restrictive covenants that will last for two to five years:  (i) a covenant not to compete, restricting any involvement by the Divesting Spouse — whether as an owner, employee, consultant, etc., — in a business that is competitive with the subject business for a reasonable period of time within a reasonable geographic area, (ii) an agreement not to interfere with the business’s relationship with its customers and vendors or to solicit customers, or attempt to persuade the business’s customers and vendors to cease doing business with the company, and (iii) an agreement not to hire or solicit the hiring of any of the employees of the business, or otherwise attempt to persuade any of the employees of the business to cease their employment relationship with the company.

If the Recipient Spouse is concerned that the Divesting Spouse may compete in business against the company after the divorce, the Recipient Spouse may want to request the Divesting Spouse to agree to accept some or all of these restrictions.  The Divesting Spouse will not agree to accept these post-divorce restrictions, however, without a corresponding commitment from the Recipient Spouse to provide some amount of additional consideration in the divorce settlement.

5. Request Confidentiality Agreement from Divesting Spouse

Confidentiality agreements are similar to restrictive covenants in that they prevent the person who is subject to the agreement from taking actions that are harmful to the business.  The confidentiality agreement is specific, however, in prohibiting the individual officer or employee from using or transferring any of the company’s confidential information or trade secrets.  All of the company’s officers and employees are subject to a common law duty not to use or misuse any of the company’s confidential information, but a written confidentiality agreement makes this prohibition clearer on the use of confidential information and trade secrets.

If the Divesting Spouse has not already entered into a confidentiality agreement with the company, the Recipient Spouse will want to request the Divesting Spouse to accept and sign a confidentiality agreement to protect the company’s valuable confidential information and trade secrets.  The Recipient Spouse wants to make sure that the company’s confidential information, technology and trade secrets are maintained in strict confidence.

6. Secure “Tail Coverage” of Divesting Spouse From D&O Carrier

 If the company has a directors and officers liability insurance policy (a “D&O Policy”) that provides protection for officers and directors from third party claims, these polices will generally remain for one or two years after the company’s officers and directors are no longer affiliated with the company.  The Recipient Spouse will therefore want to secure “tail coverage” to provide continuing insurance coverage for claims made against the Divesting Spouse.  In this regard, the Recipient Spouse may want to secure a tail policy will extend the D&O coverage over former officers and directors for a total period of five years.

The Recipient Spouse may feel like securing a tail policy that extends coverage for third party claims against the Divesting Spouse is unnecessary because it provides a benefit solely for the Divesting Spouse.  In fact, a tail policy provides insurance protection that protects both the Recipient Spouse and the Divesting Spouse, and it is also a benefit to the company.  If third party claim is made against the Divesting Spouse after the divorce related to the business, the Divesting Spouse will likely demand that the company indemnify him or her.  If the D&O policy is still in place, however, the tail policy will enable the company tender a defense of the claim against the Divesting Spouse, because the D&O carrier will cover all of these legal defense costs.  Fortunately, a tail policy that extends D&O coverage is often not too expensive to secure.

7. Specify Treatment of Future Tax Filings

Dealing with all of the tax issues involved in the transfer of the business is an extensive subject that goes beyond the scope of this post, and spouses engaging in the transfer of a business interest are strongly advised to consult with a tax advisor during their divorce.  But there is one tax issue that the Recipient Spouse should consider addressing up front.  Many businesses held in marriages are structured as pass through entities (i.e., LLC’s partnerships, Sub S corporations), which means that the owners pay the taxes on all profits that are generated by the company.  As a result, in the year following the divorce, Recipient Spouse may be required to issue a K-1 to the Divesting Spouse based on the ownership interest held in the business by the Divesting Spouse during the year in which the divorce took place.

If the K-1 issued in the year after the divorce reflects any income that is apportioned to the Divesting Spouse, he or she may expect to receive a cash distribution from the company that is sufficient to cover the Divesting Spouse’s federal tax liability based on this income.  If the company does not issue any distribution to the Divesting Spouse, that would create what is known as “phantom income” because the Divesting Spouse has to pay taxes on this income even though no distribution was issued by the Company.  The issuance of phantom income to the Divesting Spouse is likely to provoke a heated dispute at that point.

The Recipient Spouse will therefore want to address in the divorce settlement how the future K-1 that will be issued to the Divesting Spouse will address any income generated by the business in the year of the divorce.  If the Recipient Spouse is prepared to issue a distribution to the Divesting Spouse, that will take care of the issue.  If the Recipient Spouse has no intention of authorizing the company to issue any distributions in the future to the Divesting Spouse, however, this issue will need to be dealt with by the Recipient Spouse a manner that will not lead to a future legal dispute with the Divesting Spouse.

Conclusion

The transfer of ownership interests in business is common in divorce settlements.  But if business issues related to the transfer of this type of interest are not considered at the time of the divorce, the parties may find themselves engaging in continuing disputes they did not anticipate.  The Recipient Spouse, in particular, needs to take steps to ensure that the transfer takes place in a manner that allows the business to continue to run successfully, and to head off potential future conflicts with the Divesting Spouse and others after the divorce.

Curated by Texas Bar Today. Follow us on Twitter @texasbartoday.



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best interest of the child

What Does a Judge Taking Into Consideration When Deciding “The Best Interest Of The Child?”

best interest of the child

 

The judge considers many factors in determining child custody during divorce. Most important is “the best interests of the child.” To determine best interests, the judge may look at the following factors:

When Deciding The “Best Interest Of The Child?”

Home Environments. This refers to the respective environments offered by you and your spouse. The court may consider factors such as the safety, stability, and nurturing found in each home.

Emotional Ties. The emotional relationship between the child and each parent may include the nature of the bond between the parent and child and the feelings shared between the child and each parent.

Age, Sex, and Health of the Child and Parents. Louisiana no longer ascribes to the “tender years” doctrine, which formerly gave a preference for custody of very young children to the mother. If one of the parents has an illness that may impair the ability to parent, it may be considered by the court. Similarly, the judge may look at special health needs of a child.

Effect on the Child of Continuing or Disrupting an Existing Relationship. This factor might be applied in your case if you stayed at home for a period of years to care for your child, and awarding custody to the other parent would disrupt your relationship with your child.

Attitude and Stability of Each Parent’s Character. The court may consider your ability and willingness to be cooperative with the other parent in deciding who should be awarded custody. The court may also consider each parent’s history, which reflects the stability of his or her character.

Moral Fitness of Each Parent, Including Sexual Conduct. The extent to which a judge assesses the morals of a parent can vary greatly from judge to judge. Sexual conduct will ordinarily not be considered unless it has harmed your child or your child was exposed to sexual conduct.

Capacity to Provide Physical Care and Satisfy Educational Needs. Here the court may examine whether you or the other parent is better able to provide for your child’s daily needs such as nutrition, health care, hygiene, social activities, and education. The court may also look to see whether you or your spouse has been attending to these needs in the past.

Preferences of the Child. The child’s preference regarding custody will be considered if the child is of sufficient age of comprehension, regardless of chronological age, and the child’s preference is based on sound reasoning. Louisiana, unlike some other states, does not allow a child to choose the parent he or she wishes to live with. Rather, the court may consider the well-reasoned preferences of a child, at any age. Typically, the older the child, the greater the weight given to the preference. However, the child’s reasoning is also important.

Health, Welfare, and Social Behavior of the Child. Every child is unique. Your child’s needs must be considered when it comes to deciding custody and parenting time. The custody of a child with special needs, for example, may be awarded to the parent who is better able to meet those needs.

The judge may also consider whether you or your spouse has fulfilled the role of primary care provider for meeting the day-to-day needs of your child.

One tool to assist you and your attorney in establishing your case as a primary care provider is a chart indicating the care you and the other parent have each provided for your child. The clearer you are about the history of parenting, the better job your attorney can do in presenting your case to the judge.

Look at the activities below to help you review the role of you and your spouse as care providers for your child.

Parental Roles Chart

Activity Mother  Father
Attended prenatal medical visits
Attended prenatal class
Took time off work after child born
Got up with child for feedings
Got up with child when sick at night
Bathed child
Put child to sleep
Potty-trained child
Prepared and fed meals to child
Helped child learn numbers, letters, colors, etc.
Helped child with practice for music, dance lessons, sports
Took time off work for child’s appointments
Stayed home from work with sick child
Took child to doctor visits
Went to pharmacy for child’s medication
Administered child’s medication
Took child to therapy
Took child to optometrist
Took child to dentist
Took child to get haircuts
Bought clothing for child
Bought school supplies for child
Transported child to school
Picked child up after school
Drove car pool for child’s school
Went to child’s school activities
Helped child with homework and projects
Attended parent-teacher conferences
Helped in child’s classroom
Chaperoned child’s school trips and activities
Transported child to daycare
Communicated with daycare providers
Transported child from daycare
Attended daycare activities
Signed child up for sports, dance, music
Bought equipment for sports, music, dance
Transported child to sports, music, dance
Attended sports, music, dance practices
Attended sports games, music, dance recitals
Coached child’s sports
Transported child from sports, music, dance
Know child’s friends and friends’ families
Took child to religious education
Participated in child’s religious education
Obtained information and training about special needs of child.
Comforted child during times of emotional upset

Domestic Violence. Domestic violence is an important factor in determining custody, as well as parenting time and protection from abuse during the transfer of your child to the other parent. If domestic violence is a concern in your case, be sure to discuss it in detail with your attorney during the initial consultation so that every measure can be taken to protect the safety of you and your children.

The post What Does a Judge Taking Into Consideration When Deciding “The Best Interest Of The Child?” appeared first on Divorced Moms.

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I’m Single and Have NO Interest in Dating Since my Divorce

I’m Single and Have NO Interest in Dating Since my Divorce

No, I’m not dating or looking to date. If I happen to meet someone out there in the big wide world, that’s great! Until then, I’m happy with keeping my TV remote to myself.

The post I’m Single and Have NO Interest in Dating Since my Divorce appeared first on Divorce Magazine.

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The "Best Interest" Doctrine Fails Our Children

How The “Best Interest” Doctrine Fails Our Children

The "Best Interest" Doctrine Fails Our Children

 

During divorce, a judge will use a doctrine known as “the best interest of the child” to determine issues such as child custody and visitation of any minor children. It is a subjective, discretionary test, in which all circumstances affecting the child are taken into account. The word discretionary is important because, although states have laws defining what is meant by “best interest” of a child a judge has great leeway in determining the above issues.

For example, in the state of Tennessee custody and visitation provisions state, “In taking into account the child’s best interest, the court shall order a custody arrangement that permits both parents to enjoy the maximum participation possible in the life of the child consistent with the factors set out in subdivisions (a)(1)-(10), the location of the residences of the parents, the child’s need for stability and all other relevant factors.”

Those “other relevant factors” are:

  1. The love, affection and emotional ties existing between the parents or caregivers and the child;
  2. The disposition of the parents or caregivers to provide the child with food, clothing, medical care, education, and other necessary care and the degree to which a parent or caregiver has been the primary caregiver;
  3. The importance of continuity in the child’s life and the length of time the child has lived in a stable, satisfactory environment.
  4. The stability of the family unit of the parents or caregivers;
  5. The mental and physical health of the parents or caregivers;
  6. The home, school and community record of the child;
  7. The reasonable preference of the child, if twelve (12) years of age or older;
  8. Evidence of physical or emotional abuse to the child, to the other parent or to any other person; the court shall include in its decision a written finding of all evidence, and all findings of facts connected to the evidence. In addition, the court shall, where appropriate, refer to any issues of abuse to the juvenile court for further proceedings;
  9. The character and behavior of any other person who resides in or frequents the home of a parent or caregiver and the person’s interactions with the child; and
  10. Each parent’s or caregiver’s past and potential for future performance of parenting responsibilities, including the willingness and ability of each of the parents and caregivers to facilitate and encourage a close and continuing parent-child relationship between the child and both of the child’s parents, consistent with the best interest of the child.

How The “Best Interest” Doctrine Fails Our Children

As you can see, the majority of the factors used by a judge to decide custody and visitation arrangements are quite subjective. A judge’s personal feelings and opinions are more than likely what will determine a case, not a true legal standing in family law.

When the application of “best interest of the child” ends up being based on nothing more than judicial discretion it only makes sense that those who argue the need for a new standard in determining these legal issues may be the ones who are, in reality, the only ones concerned with the “best interest of the child.”

The standard is supposed to promote uniformity and take into account the rights of a child to a loving relationship with both parents. Instead, it is often criticized because it is easily manipulated by family court judges. Some who argue against the “best interest” doctrine say that it is nothing more than an excuse for the courts to interfere with private family issues and has little to do with the welfare of children.

Regardless of the broad discretion given to judges and the potential for its abuse the underlying goal of the “best interest” standard in family law shouldn’t be ignored. It is, after all, all we have at this time in family law that attempts to advance the rights and welfare of our children.

The post How The “Best Interest” Doctrine Fails Our Children appeared first on Divorced Moms.

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