What do you do when business interests are involved in a divorce?

Jenny Smith | 03 Feb 2021

INSIGHTS

People coming to our Family Law team for assistance often have business interests, which come in different forms such as sole trading businesses, partnerships or limited companies. These business interests can represent a significant part of the assets which have to be divided on separation and divorce. So, it can be a real concern for those involved and there are lots of issues to consider when business interests are involved and how much of those interests will be considered matrimonial property.

There have been two notable court cases in the last year or so which once again showed that where business interests are involved, it is essential to consult a specialist family solicitor about your options.

Summary of the cases

The first case, SCA v MMA, involved extremely complicated business interests, with the pursuer looking to get their share of what was in essence a family business empire. Among a number of important points, this case showed the need for impartial experts who the court feels it can rely on for valuation purposes – this wasn’t the case for the defenders and the judge therefore preferred the pursuers valuations. The fact that this case also included an unsuccessful, and ultimately costly appear, also serves as a stark reminder for clients and family lawyers alike that going to court as opposed to settling is fraught with risk.

The second case, McCallion v McCallion also considered the issue of special circumstances. In these cases the court has to determine whether the value of the matrimonial property should be shared equally or in such other proportions as may be justified by special circumstances. The basic principle is that unless special circumstances warrant it, matrimonial property is shared equally. Here, the pursuer was looking for recognition of the fact that intellectual property rights he had before the marriage contributed to the value of the matrimonial property and this should be taken into account. However, in the appeal the judges commented that no attempt was made during the proof to value the IP rights, separately or as part of the shareholding, or to lead evidence which would have enabled a conclusion to be reached that there was an identifiable pre-marriage value which could be reflected in the decision. This demonstrates the importance of properly attempting to quantify pre-marriage contributions.

In more detail

Here we look in more detail at some of the interesting issues raised in these two cases.

Case of SCA v MMA.

In this case the defender had various business interests, held in a number of different types of business entity. The background to the formation of the various interests was complicated, as was the structure and inter-relationship of the businesses. The defender’s father was instrumental in starting off the business empire. The defender had two brothers. One ceased to be involved in the businesses and the other died, both during the period of marriage. The pursuer and defender were also equal shareholders in a limited company. The defender was a partner in a partnership with his father. The father and also one of the parties’ sons were supportive of the defender, with the other son supportive of his mother.

The first point to note from SCA v MMA relates to the importance of impartiality of experts. In most cases involving business interests, we will generally need to instruct a forensic accountant. Often, a surveyor’s input is required too, to value heritable property, for example commercial premises. The surveyor’s valuations can then be plugged into the accountant’s report. There have been various cases over the years highlighting the need for valuers to be impartial and independent. The decision in SCA v MMA reinforces this, with the judge concluding that the defender’s surveyor allowed himself to be influenced by the defender’s views and so departed from the “necessary position of impartiality of a witness” (per Lady Wise). This then had an adverse knock on effect on the reliance placed by Lady Wise on the defender’s forensic accountant’s report. The valuation by the pursuer’s accountant was preferred.

The business valuation report is likely to be a costly exercise, especially as there will probably be follow up work required, such as the valuer attending consultations, commenting on the other side’s report, meeting with that valuer to narrow the issues in dispute in advance of Proof and updating his/her report. It was noted SCA v MMA that the defender’s forensic accountant had not been told that certain property valuations were agreed after issue of his report. He accepted that this affected his valuation. This is a vital part of the process and as SCA v MMA shows not one which should be overlooked or left to the last minute.

Another issue, increasingly common as the pandemic continues is that of resources; the ability to pay an order made (and per section 8(2) of the Family Law (Scotland) Act 1985 which states that before making any order for financial provision the court must be satisfied both that it is justified by the principles listed in section 9 of the Act and reasonable having regard to parties’ resources). A spouse may need to ask court to reduce the sum due, or for it to be paid in instalments. In SCA v MMA Lady Wise decided partly due to the impact of the Covid pandemic on trading that the capital sum payable by the defender should be payable in instalments, with interest falling due on each instalment from the date when it is due. This was appealed by the pursuer who argued that interest should be on the whole sum form the date of Lady Wise’s interlocutor but appeal was refused.

SCA v MMA also considered the issue of special circumstances. Lady Wise noted that once a schedule of matrimonial property has been drawn up, the court then requires to determine whether the value of the matrimonial property should be shared equally or in such other proportions as may be justified by special circumstances (per section 10(1) of the 1985 Act). The basic principle is that unless special circumstances warrant it, matrimonial property is shared equally. Section 10 (6) of the 1985 Act sets out what may be included as “special circumstances”.

In this case, the court required to give consideration to s.10 (6) (b), being the source of the funds or assets used to acquire any part of the matrimonial property where those funds or assets were not derived from the income or efforts of the persons during the marriage. In SCA v MMA an unequal division of 58:42 in favour of the defender was awarded. This was because the defender inherited his brother’s share in most of the business assets (in broad terms around 1million plus 2 properties) and also stated he would take on the burden of settling his late brother’s tax liabilities. The judgement describes the careful counter-balancing exercise which has to be carried out in assessing the strength of the source of funds argument and how very case specific this tends to be; here, Lady Wise accepted if the brother had lived he would have remained in business with the defender, on the other hand the defender through his own efforts enhanced the value of the business considerably during marriage. Lady Wise sums up nicely the nub of the matter, stating “What I must achieve is a balance that seems fair and reasonable having regard to the undisputed history of the origins and development of many of the business interests that now comprise matrimonial property”.

There is then the thorny issue of quantification of the special circumstances argument. Lady Wise notes that it is rarely appropriate to effect some sort of reimbursement of the value of inherited wealth, with or without an adjustment to reflect relevant date value.

The defender in SCA v MMA then appealed Lady Wise’s decision, unsuccessfully. Sometimes, a spouse will have business interests with a third party. The spouse’s interest still needs to be valued in the context of the separation/divorce. This was relevant in SCA v MMA. Here, part of the defender’s business empire was a restaurant owned by a partnership, with the partnership consisting of the defender and his father. The father was very supportive of his son at proof and gave evidence he would object to a sale. Lady Wise described him as a “colourful character”. Despite the father’s objections, Lady Wise took the view that if there was a reasonable financial incentive for him, he would not stand in the way of realisation of partnership interests. The basis of the defender’s appeal was that his father’s evidence should have caused the judge to reject the partnership valuation on which she relied in her calculations. He argued it was an error of calculation on her part and as such the matrimonial property was overstated. The appeal was unsuccessful. The main reason for this was that the argument was not put to the judge at first instance. She was not invited to recalculate on the basis of that argument. This reinforces how important it is to cover properly all points you intend to rely on at proof. The appeal court also noted, and this is a point to bear in mind when considering an appeal, the more general problem that even if the appeal court did see merit in the ground of appeal, it is not in a position to unscramble the judge at first instance’s figures and identify appropriate alternatives.

The defender also tried to challenge Lady Wise’s decision to award the pursuer 80% of the expenses of the proof. This was on the basis the pursuer had been successful on most of the contentious issues and had beaten a pre-proof offer by a significant amount. On this ground, too, the defender was unsuccessful. This serves as a stark reminder for clients and family lawyers alike that going to proof as opposed to settling is fraught with risk.

SCA v MMA [2020] CSOH 54, (appealed, unsuccessfully, [2020] CSIH 66)

Case of McCallion v McCallion

The issue of special circumstances also featured in McCallion v McCallion when the pursuer was unsuccessful in appealing the decision.

The appeal was in two parts.

Firstly that the judge at first instance (Lord Glennie) failed to take account or give proper weight to the reclaimer’s contribution to the pool of matrimonial property from IP rights he had acquired from his own efforts prior to marriage.

Secondly, Lord Glennie had erred in determining the reclaimer’s conduct in relation to the tax consequences of the disposal of shares during the marriage amounted to a special circumstance/dissipation of assets or otherwise was conduct which required to be corrected by payment of an additional capital sum to the respondent.

So, this case involved consideration of section 10 (6) (b) and (c), and also s.11 (7) (impact of conduct adversely affecting financial resources).

Dealing with the first part of the appeal, the pursuer & reclaimer argued the judge did not give fair account to the non-matrimonial source of shares (special circumstances under s.10 (6) (b)). He argued that the decision failed to recognise the argument under section 9(1) (b) that the respondent had been given an economic advantage because the sum secured on sale of the shares stemmed from the reclaimer’s pre-marital assets. But a large part of the value of the shares in question arose during marriage so it could not be said that any particular part of the proceeds of sale represented pre-marital assets. In this case, and before marriage, the pursuer had acquired and registered a number of intellectual property rights which in 2009 (during the marriage) were assigned to a limited company in which he held 40% of shares (a third party held the rest). The judge at first instance concluded that the large part of the value of the shareholding in the company (UPAL) arose from work done in exploiting the IP rights after the marriage and that therefore no particular part of the proceeds of sale of the shares represented pre-marital assets.

In the appeal the judges commented that no attempt was made during the proof to value the IP rights, separately or as part of the shareholding, or to lead evidence which would have enabled a conclusion to be reached that there was an identifiable pre-marriage value which could be reflected in the decision. The learning point here is the importance of properly attempting to quantify pre-marriage contributions.

The defender for her part had argued s.10 (6) (c) (destruction, dissipation or alienation of property by either person). There was a CGT issue in this case concerning whether the pursuer ought to have disclosed a disposal on his 2012/13 or 2015/16 tax return (if former, tax at 10% as entrepreneur’s relief available, if latter then 28%). This was incurred when the pursuer exercised an option for the other shareholder to buy his shares, which option he exercised in June 2012. The defender averred that the pursuer dissipated assets/his conduct adversely affected the matrimonial property by his failure to disclose at the earlier date (because he received less for the shares as had to pay more tax). Lord Glennie said “I am satisfied that this depletion of the matrimonial assets by the pursuer amounts to a special circumstances falling within section 10(1) and 10(6)(c) of the Act justifying a departure from the principle of equal sharing. He was satisfied that this merited a departure from equal sharing. The pursuer & reclaimer unsuccessfully attempted to appeal this. He submitted that Lord Glennie had incorrectly interpreted sections 10(6) (c) and section 11 (7) of the 1985 Act. The appeal court held that Lord Glennie had not erred in concluding section 10 (6) (c ) applied and in using section 11(7) as a cross check to determine whether there was a basis for taking conduct into account. This is a helpful analysis of the interaction between these sections (they are not synonymous or interchangeable) and of the successful operation of a dissipation argument.

McCallion v McCallion [2019] CSOH 100 (appealed, again unsuccessfully, [2020] CSIH 43)

Get in touch – we’re here to help

In summary, the cases of McCallion and SCA v MMA and their appeals raise interesting issues. In cases such as these where business interests are involved, it is essential to consult a specialist family solicitor about your options.

If you require more information on any of the above, please contact Jenny Smith or Alexis Harper.

Our family law team is made up of experienced family law solicitors around the country. Many of our team are trained in various methods of dispute resolution, including mediation and collaborative practice, and are Accredited by the Law Society of Scotland as specialists in their field.