Capitalization of Income Method

Property division can be especially challenging during divorce in the context of a closely held family-owned business that a married couple used as a substantial source of income. Many couples that face this situation have difficulty agreeing on what the business is worth, and how it should be balanced against any sacrifices made by the other spouse during the course of the marriage. Methods that are considered acceptable for valuing a business include the capitalization of income method, the cost approach method, and the market method. Each of these methods may produce a different result. The Monmouth County property division attorneys at Goldstein Law Group understand which method is appropriate to use in a particular situation. For example, one spouse may have invested an inheritance into the other spouse's business. Or in some cases, one spouse may have worked for free during a difficult start-up period with the expectation that he or she would continue to be supported by the business' profits well into the future.

New Jersey is an equitable distribution state, which means that judges will divide marital property based on fairness and reasonableness, rather than according to a perfectly equal split. What is fair or reasonable in the case of a closely held business operated by one spouse can be challenging to determine and the source of great controversy during a divorce.

The most common method of valuing a closely held business is the capitalization of income method. When using this method, an expert will be retained to determine the value of both tangible and intangible assets of the business. The tangible assets are such things as accounts receivable and inventory. Intangible assets include things like business "goodwill," which is the expectation of continued public patronage or the expectation that a business owner will continue to enjoy future benefits from the business. The projected level of economic earnings can make a big difference to property division in your divorce. Those future benefits will need to be converted to a present value in order to determine the total value of the business.

If the capitalization of income method is used, an attorney can retain a forensic accountant who can determine the fair present cash value of the income stream to the business owner. The accountant can assess wages, personal expenses paid through the business, and distributions in order to assess the total financial benefit to the business owner. The accountant will then subtract the business owner's services or reasonable compensation from the financial benefit in order to achieve an estimate of value. A capitalization rate will be applied to income data after subtracting reasonable compensation.