Valuing a Business in Divorce: What is Personal Goodwill and Why Does it Matter?

In many divorces, a business interest is the single largest asset owned by either of the parties.  And in a community property state like Texas, all the assets, including the business, are assigned a value then split “equitably” between the parties.  One notable exception is personal goodwill, which is personal to the owner and thus not divisible in divorce.  This may seem like a minor distinction, but the impact can be substantial.  For example, a doctor or CPA who owns his own practice and is primarily responsible for maintaining client relationships and bringing in new clients may have a lot of personal goodwill in the value of his business.  The value of this personal goodwill could be hundreds of thousands of dollars in a typical small professional practice, or much more in a larger practice.  And remember, personal goodwill is NOT divisible in divorce.  So a doctor, dentist, or CPA who owns his own practice may find that his business is worth $800K, but it has $600K of personal goodwill, so the amount to be divided with his soon to be ex-spouse is only $200K.  The $600K of personal goodwill is personal to him and is not included in the community estate.  But personal goodwill is not just limited to doctors, lawyers, and CPA’s.  It may apply to any business owner who is crucial to the ongoing success of the business.  In the case of Rathmell v Morrison, 732 S.W.2d 6 (1987), the business was a commercial insurance agency and the court found that substantial personal goodwill existed to the benefit of the business owner spouse.

So how do you know if personal goodwill exists in your business?  There are a wide range of factors and some are subjective, so you really need an experienced valuation professional to help you.  Make sure he or she knows the laws of your state.  Getting a professional business valuation may initially seem like an unneeded expense, but a good valuation professional will often pay for himself many times over.

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