The following article is by Nicola Harries, a partner in the family law practice at Stevens & Bolton. She writes about recent developments in the evolving pre-nuptial area of matrimonial law.

The following article is by Nicola Harries, a partner in the
family law practice at Stevens & Bolton. She writes about recent
developments in the evolving pre-nuptial area of matrimonial law. As always,
while this publication is delighted to carry such expert analysis, the editors
do not necessarily endorse all of the opinions in the article.

Pre-nuptial agreements have grown in popularity following
several well publicised court cases where they have been upheld. Many wealth
advisors consider them an important part of a family wealth management
strategy. Wealthy parents are often the drivers behind such agreements, looking
to protect the wealth that they have, or will, pass on to their children and
grandchildren. 

The aim of a pre-nup is to provide some certainty and
protection to couples and their assets in the event of marital breakdown.
Simple pre-nups may seek only to ring-fence specific assets brought to the
marriage by one or both spouses. However, the more complex (and riskier)
agreements try to anticipate what payments should be made if a marriage fails
at a point in the future. Typically, the longer the marriage lasts, the greater
the provision that is envisaged for the financially weaker spouse. Advisors
must “crystal ball gaze”, looking at the parties’ lifestyles and family
expectations, balancing them against case law and how that is expected to
develop. In undertaking that process, it is essential to consider the make-up
of the assets and to be creative and cautious in equal measure.

An agreement to transfer a specific piece of property or to
pay a predetermined sum of money on the break-up of a marriage can be very
risky. Financial history is littered with examples that should serve as a
warning against this approach. Consider the example of an entrepreneur who
generated huge wealth in the 90’s with a large shareholding in a “dot-com”
company. He then entered into a pre-nup to protect that wealth and agreed to
pay a specific amount to his future spouse if they separated. When the marriage
imploded just as the “dot.com” bubble burst, that sum, referable to out-of-date
share values, represented a huge proportion of his wealth. But for the pre-nup,
a much smaller sum may well have been payable to take into account the value of
the “dot.com” shares at the time of the break-up.

Rather than agree to pay a specific amount, it would have
been prudent to offer a sum linked to the value of the shares at the time of
the marriage breakdown. For example, a lump sum equivalent to 15 per cent of
the value of the shareholding would have spread the risk between both
parties. Agreeing to pay a set amount is
risky in almost any situation. Not every entrepreneur is serially successful; I
recall a successful husband who made around £20 million from his first venture.
Believing he could replicate the success, he went on to invest in numerous,
risky and speculative ventures, none of which succeeded. Had a pre-nup been concluded
to pay a set sum based on his initial wealth, the consequences for him (and his
advisors) could have been dire.

Hazards

Similarly, agreeing to allocate a particular property to one
spouse can be hazardous. For example, allocating the London piedà terre to one spouse, and the country home to the other
could lead to a significant financial imbalance. The recent London property bubble highlights this
risk.  With London
property prices soaring by 10 per cent or more in September alone, the value of
the London home
is likely to have outstripped the country house by some margin. A pre-nup
agreeing that the couple apportion the values of both properties would spread
the risk, either by agreeing a sale of both properties, with the sale proceeds
being shared, or by agreeing a balancing payment for the spouse keeping the
less valuable house.

Knight Frank’s Luxury Investment Index shows the variation
in performance across different luxury asset classes. Classic car values seem
to stand up well over time, but art and antique furniture are much more
volatile, being closely linked to tastes which change over time. Last year alone Damien Hirst’s art fell in
value by about 30 per cent.

Investment-grade wine has returned to growth this year but
both wine and art are more volatile as investments than FTSE 100 shares. If couples are invested in such assets this
must be kept in mind when considering the terms of a pre-nup.

The obvious way to share the risks between the parties is to
look at provision by payment of a percentage of the assets in the event of a
split. Family lawyers know that many divorces involve lengthy and detailed
arguments about the extent and value of the family assets to be divided, before
the couple can proceed to arguments about how the proportions in which those
assets are actually shared. The recent
case between Michelle and Scot Young is a case in point.

However a pre-nup can tackle this by providing a clear
mechanism by which the specified assets are to be valued, when they are to be
valued and even by whom. There is no way to eliminate all possibility of
litigation in such situations, but if two adults have been independently
advised, and have agreed that a certain firm of accountants will undertake a
valuation of the wealth to be shared, it will be much harder for one spouse to
renege on that agreement. In taking this route, advisors must anticipate as
many issues as possible. If couples have interests in numerous different assets
classes, thought should be given to the various individual experts who should
value them. Choosing your experts at the
pre-nup stage could save thousands of pounds of legal fees by pre-determining
such issues.

Advisors should also consider the net value of assets. If shares need to be sold to pay off a
spouse, what tax liabilities will that trigger? What are the costs of sale
going to be? The costs of selling antiques, cars and art may be considerably
higher than selling shares. These are
legitimate expenses of which account should be taken. Set them out clearly in a
pre-nup as expenses that are deductible in reaching the net value of the
assets, and you close down as many arguments as you can at an early stage.

Lastly, do not overlook the possible impact of currency
fluctuations. Agreements to pay sums in one currency could lead to unexpected
consequences. Both parties might do well to hedge their bets if assets are
spread internationally. Pre-nups could
provide for sums to be paid in two or more different currencies to smooth the
impact of such fluctuations.

No pre-nup can anticipate every eventuality.  However, creative thinking and drafting can
go a long way to setting out mechanisms to minimise the impact of some of the
risks. The more imbalanced the effect of a pre-nup is, the greater the risk
that a court may choose to vary its terms. It is therefore important for both
parties, to think ahead to ensure (as far as possible) that property bubbles
and ‘dot-com’ booms don’t derail their agreement. 

For the time being at least, pre-nups in England and Wales are not
automatically legally binding.  Courts
have been increasingly willing to hold parties to the terms of their
agreements. Legal advice must be taken by both parties to ensure that their
agreement is drafted to give it the best chance of being upheld.  The Law Commission has reviewed the law in
this area and it is widely anticipated that it will propose a change to the law
to make pre-nups binding. It is hoped
that the report, now several weeks overdue, will herald the advent of that
change.