While a prenuptial agreement might not be on the wedding checklist, family business owners—and their children who might own or participate in the business—are often advised to prepare one as part of the marital process.
To begin, a prenuptial agreement is a contract between prospective spouses that sets forth the division of their assets in case of divorce or death and preserves the character of property brought into and acquired during the marriage. In some instances, the appreciation in value of a business can be deemed a marital asset if the appreciation takes place during the marriage. This can be the case if the other spouse does not make direct contributions to the business and even if the property is the separate property of one spouse.
A prenuptial agreement is a way to protect a family business, its income, resources, and assets. For example, the agreement can be used to prevent a non-owner spouse from accessing the business finances, acquiring a portion of the entity, and obtaining a support award based on the income generated by the business.
Another important consideration is the marital property regime where the parties are located. For example, Washington and California are community property states while Oregon is a separate property state. If the character of the property as community property or separate property is not clear, a change in domicile by the parties may change how the property is treated in the event of death or divorce.
The purpose of a prenuptial agreement is not to assert control or dominion but to prevent catastrophic conflicts, preserve the family business, and respect the contributions that each spouse makes to the business. Ultimately, it prepares the family and its business for disruptive events.
When Is a Prenuptial Agreement Enforceable?
The validity of prenuptial agreements in divorce actions is often challenged, so it is important to make sure the general administrative requirements are satisfied. The specific legal requirements regarding the enforceability and validity of prenuptial agreements differ by state. That being said, the following considerations are essential to drafting a successful prenuptial agreement:
- 1. Separate and independent legal counsel for each party is an absolute necessity in a prenuptial agreement to avoid a conflict of interest or an appearance of undue influence.
- 2. Providing sufficient financial disclosures, including income and liabilities. In most cases, the prenuptial agreement will not be public unless there is litigation, so parties should make full disclosure in the document. Failing to properly disclose assets and liabilities could lead to lack of enforcement of the agreement.
- 3. Use of carefully drafted and explicitly detailed language that defines each party's rights, obligations, and waivers as each relates to the marriage.
- 4. Provisions that are overreaching or encourage divorce should be omitted.
- 5. The proposed agreement should be presented to a prospective spouse significantly in advance of a wedding. Most practitioners advise that the parties should sign the agreement at least 30 days prior to the marriage becoming official.
- 6. The agreement should be entered into by both parties freely and voluntarily, without any pressure, influence, or coercion.
- 7. The agreement should not be so one-sided as to be unconscionable or shockingly unfair or unjust to one party.
What Should Be Included in a Prenuptial Agreement?
Prenuptial agreements vary and each is unique, but an ideal agreement will include a concrete method to distribute assets on death or divorce and should also make clear how property is characterized before and after the marriage. Such substantiative provisions include the following:
- 1. Characterization of property brought into the marriage, e.g., what property remains separate property and what property may become community property under certain circumstances.
- 2. Characterization of property acquired during marriage and treatment of any income, rents, dividends, or distributions from such property.
- 3. Payments towards housing and living expenses and whether payments towards one party's separate property is a gift or an establishment of equity in such property.
- 4. Characterization of income, compensation, bonuses, or other earnings as community property (generally default in community property states) or separate property.
- 5. Treatment of contributions of funds and/or services by one spouse or by the marital community to another spouse's property.
- 6. How property jointly acquired during the marriage by the parties is to be characterized.
- 7. Treatment of life insurance and retirement plans existing prior to marriage and future plans or policies obtained by the parties.
- 8. Division of property in the event or divorce or death, including treatment of alimony or support payments, is part of a divorce decree.
- 9. Status of filing joint or separate income tax returns.
Although there is emotional reflection involved in entering into a prenuptial agreement, it is crucial to acknowledge that the decision will affect not only you but also your family business. A prenuptial agreement can help the long-term success of your family business by preventing fractional sales and buyouts to satisfy divorce decrees, and it can help retain management decisions within the immediate family.