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Tax Aspects of Divorce:In many marriages, a privately-held business is the major marital asset. It is usually impracticable for the couple to jointly run a business when they could not solve the problems of marriage. Courts are reluctant to order the business sold. It may be possible to divide the business, but usually not. If one party receives property that has appreciated while another receives property that has not, the values are not equal. The potential tax to be incurred upon the eventual sale of the appreciated asset cannot be avoided. In order to equalize the values the embedded tax liability should be considered to reduce value of the appreciated marital asset (the family business) for purposes of equitable division.
Until recently, courts were reluctant to recognize the embedded tax in asset valuations. This was also true in valuations for estates and gifts. However, several recent cases illustrate the courts may now be willing to at least look at, if not offset dollar-for-dollar, future tax liabilities.
Because of the repeal of the General Utilities doctrine, companies may have what is known as "built-in capital gain" in their assets’ values. After the repeal of the General Utilities doctrine, corporations distributing property to their shareholders in a liquidating distribution must recognize gain on the value of the distribution, just as if it had sold the assets, paid any tax due, and then distributed the remaining cash.
A similar result occurs in an asset sale. The value allocated to the existing assets has an embedded tax that would have to be recognized by the corporation when the assets are sold. If an unincorporated business were being valued or sold, the result would be the same to the owner. The actual tax may be significantly more than the capital gains tax because any depreciable assets would also be subject to recapture of depreciation at ordinary income rates. The courts have not addressed the effect on valuation for the embedded tax for recapture of depreciation.
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