RSS feedsThere are many risks associated with running your own business but one which is often overlooked is the threat of marital breakdown. In the UK during 2006, there were 275,140 marriages and 148,141 divorces so, statistically, you are more likely to divorce than stay married for life.
Although the Mills/McCartney divorce case probably had more media value than legal, the case did highlight the significant professional fees that were incurred disputing valuations of business assets. Even where the overall assets in question are not as sizeable as the McCartneys’, these costs can make a significant impact upon the net assets available to be distributed post divorce.
Valuable advice
How should a business be valued? An argument could be made for discounting the value of a minority shareholding~ in a private company. However, where that business is family owned, it may be argued that a quasi-partnership exists and there is little likelihood of the shares having to be sold on the open market at a discount when these could potentially be sold to other family members. The court may therefore take the view that to apply any discount would be artificial.
In recent years, key divorce cases have established that, rather than focusing upon the needs of each party, there must also be a fair division of assets. The divorce of multi-millionaire insurance boss John Charman highlighted that it is difficult to prevent all assets, including business assets and trust funds, from being taken into account during the divorce process.
Indeed, a spouse may never have had an active involvement in a business but may still claim against the businesses assets or potentially even force its sale in the event of marital breakdown.
Over time, many owner-managed business have established small self administered pension schemes (SSASs) which they have used to purchase the commercial premises from which the business trades.To equalise assets on divorce, a pension sharing order could be made against the SSAS.
Pension sharing was introduced to run alongside ‘offsetting’ (when one partner’s pension is traded against other assets from the marriage) or ‘earmarking’ options (when a proportion of a pension in payment is earmarked to go to one partner upon retirement). The intention was to allow pension benefits to be reallocated between parties at the time of divorce, providing a clean break solution.
Regarding SSASs, a pension sharing order can be applied using two methods. Either an external transfer can be offered, or the former spouse can be made a pension credit member of the scheme.
To offer an external transfer, sufficient assets within the SSAS must normally be liquidated to pay the transfer value to an alternative provider. If the property is the sole or largest asset of the SSAS, it may be necessary to consider selling or remortgaging this in order to raise sufficient funds. However, there may be a reluctance to do this or the SSAS may be unable to borrow the required level of additional funds.
By making the former spouse a pension credit member of the SSAS, the scheme assets can remain intact. The disadvantage is that the former spouse must also become a trustee.
The trustees will need to discuss and agree upon all future decisions affecting the SSAS. Therefore ongoing co-operation and communication are imperative in order to continue to run the SSAS successfully. Taking into account the breakdown of the relationship and subsequent divorce, this may prove a difficult challenge and does not necessarily achieve the clean-break option intended by pension sharing.
Where the value of an individual’s pension funds exceeded their standard lifetime allowance of £1.5m as at 6 April 2006, a debit applied through a pension sharing order can cause further problems. For clients who opted for primary protection of their pension funds, the value of the protected benefits will need to be recalculated taking into account the size of pension debit. For someone who has enhanced protection, a pension debit will not invalidate this but if contributions are made to build up the funds after the debit, the enhanced protection will be lost.
Reap the benefits
A recipient of a pension sharing award has to count its value against their own lifetime allowance and may incur a lifetime allowance tax charge if this is exceeded when pension benefits are taken.
For example, Mrs Smith receives a pension credit of £2m in May 2008 from which she immediately elects to take pension benefits. The current lifetime allowance is £1.65m, which means a lifetime allowance tax charge would apply of £192,500 (55% of £335,000). This tax charge would need to be taken into account when agreeing the split of matrimonial assets or the settlement restructured to avoid exceeding the lifetime allowance and the resulting tax charge.
This can be avoided if the pension is brought into payment before the pension sharing order goes through, but this is only possible in limited circumstances.
While it is unlikely that a business can be entirely divorce -proofed, it is important to encourage a review of the business prior to any relationship hiccups, encompassing accountancy, financial and legal advice to help to safeguard the continuity of the business in the eventuality of divorce.
Sue Faiers is an associate director of financial services at Smith & Williamson
Investing your new-found wealth
Capital gains tax changes means many investors realised assets ahead of the new CGT regime, which came into effect on 6 April. What should people do with their new-found wealth?
First, consider your objectives in relation to what’s on offer. Are you seeking income, growth, or a combination of the two? And if income, at what level?
The next step is to look at risk. These days, even cash deposits at some banks carry risk, given the implications of the credit crunch. Timescale becomes important. If you do not need your capital for five years or more, you can afford to take more risk providing your income needs are met.
Cautious investors may gravitate towards cash or bonds. Cash deposits can be
structured, for example, using single premium investment bonds to enhance net
returns particularly for higher rate taxpayers.
Many investors consider beating inflation a priority. Index-Linked National
Savings certificates can be useful here (0.35% per annum above inflation over
five years tax free), however, there is a cap of £15,000 per individual.
Alternatively, a nine-year index-linked gilt provides a net real yield of around 0.8% above inflation for a 40% taxpayer, attractive for those who fear inflation.
More risky is the concept of absolute rather than relative returns; ie, your investment grows even if markets are falling. Structured products offer protection of your initial capital and give a return linked to the performance of, for example, the FTSE 100 over, say, a five-year period. These products rely on the quality of the ultimate capital guarantor so avoid those with ratings below AA.
Equity investment either in individual stocks or through collective funds such as unit trusts and OEICS is another option, but again, remember the risks. Returns are dictated by market movements and results are influenced by asset allocation. If you are UK based and the UK market falls by 10% you will suffer.
Advice is essential. The biggest risk is leaving new found wealth on deposit where it loses value over time. Inertia is not an option.
Mike Fosberry is head of financial services at Smith & Williamson
