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Creating a Divorce Settlement Agreement, Part 2
What you need to know before creating a settlement or separation agreement.
Closely Held Business
A closely held business can be in the form of a sole proprietorship, corporation, general or limited partnership, or limited liability company. Before one spouse agrees to take a business interest, he or she has to make sure there are no restrictions on owning the interest. There could be legal or contractual restrictions on which spouse could own the business interest.
If the business, for instance, is a professional corporation, as defined by state or provincial law, then one spouse may be legally restricted from maintaining an ownership interest. For instance, if Joe is a physician and Barb is an accountant, in many states or provinces, only Joe could own his medical practice and only Barb could own her accountancy practice. Another restriction may exist if there is a liquor license or taxicab medallion that is only transferable with government approval.
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A “buy-sell” agreement is an example of a contractual restriction that may preclude a transfer to a spouse. If the “non-owner” spouse is awarded the business interest in the divorce, then the spouse may be forced to sell the business interest at a substantial discount. For example: Joe owns 25% of a business that has a total value of $100,000; his share is valued at $25,000. If the buy-sell agreement requires Barb to sell her interest at 50% of the value, and if she were awarded the stock in the divorce, she would be required to sell her interest for $12,500.
Property Settlement Note
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A property settlement note is generally used to equalize the assets. For instance, Mike and Julie have the following assets (shown in “Table Two,” below).
To equalize the division of assets, Mike should pay Julie an additional $50,000. This can be structured as a note payable to Julie in the amount of $50,000 at an agreed-upon interest rate. If Mike and Julie agree that the note would be payable over five years at a 5% interest rate, then the annual principal and interest payments would be $11,549.
A property settlement note has some significant drawbacks, however, including:
If the agreement isn’t followed, it becomes another issue to fight over.
What happens if Mike doesn’t pay?
Should Mike pay interest on the note?
If the note is unsecured, it would probably be discharged in bankruptcy.
What happens if Mike dies or becomes disabled before the note is paid in full?
Life Insurance
Some life-insurance policies have cash value. This means that the owner could borrow money from the policy or trade the promise to pay a future sum at death for the current cash value, less any costs or charges.
Other policies, such as term insurance, have no cash value. Term insurance may still be valuable, though, particularly if the insured person is now uninsurable.
The settlement agreement should address who will own the existing life insurance policies. Naming an ex-spouse or child as the irrevocable beneficiary of a group plan is minimally effective, since the designation can be changed unilaterally by a plan member when the carrier changes, or indeed at any other time. If the non-insured spouse is supposed to be the beneficiary, then the best way to protect his or her interest is to have the non-insured spouse own the policy. Using the above example, if Mike owns a policy and is the insured, and they agree that Julie should be the beneficiary, then he should transfer ownership of the policy to Julie. She should verify that she is the beneficiary of the policy. They can structure it so that he pays her the premiums as alimony. That way, she can be sure that the payments are made and that she remains the beneficiary. Otherwise, she is at risk if he lets the policy lapse or changes the beneficiary.
Other Assets
Some other assets to address in the settlement agreement include: Frequent Flyer Miles, lottery winnings or other prize winnings, club dues and annual membership fees, inheritance and gifts, and trusts naming one spouse as a current beneficiary.
Keep in mind the assets listed in this article are not by any means exhaustive; you and your spouse may have assets in addition to those listed in this article. They can make a huge difference in your post-divorce life, so take the time to list them carefully and discuss them fully before you settle things, once and for all.
As a Certified Divorce Financial Analyst (CDFA) we can help you through this process. Use the link below to contact us.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual, nor intended as tax or legal advice. The opinions expressed in this material do not necessarily reflect the views of LPL Financial. LPL Financial representatives do not offer tax or legal advice or services. Please contact a qualified professional to discuss tax or legal matters. Individual results may vary from the examples shown.
