Get a business valuation if you're worried about paying too much in taxes when you sell your company.
A business valuation is a report that can assist you in determining your pricing. It might also assist you in calculating the tax implications ahead of time. It may also provide solutions for you to decrease the damage.
Keep these seven tax concerns in mind if you're thinking about selling your business.
According to Project Equity, baby boomers control 2.3 million businesses. According to this non-profit group, six out of ten business owners aim to sell their companies over the next decade. If you're one of these people, or a younger-generation business owner considering selling your company, keep these seven tax issues in mind.
If you buy something through our links, we may earn money from our affiliate partners.
1. Complete the sale of a sole proprietorship by negotiating everything.
A sale is handled as if you sold each asset separately if your business is a sole proprietorship. The majority of the assets generate capital gains, which are taxed at low rates. However, some assets, such as inventory, generate ordinary income when sold. Negotiating the conditions of the sale, which includes assigning the purchase price to the business's assets, is up to the parties.
The IRS Form 8594, Asset Acquisition Statement, lists seven asset classes to which the purchase price must be allocated. The first category contains cash and checking accounts, to which the purchase price is allocated dollar for dollar. Goodwill and going-concern value are included in the last class (class VII). This is the intangible asset that accounts for a significant portion of the buying price. The higher the allocation to this class, the more goodwill the company had.
Remember that allocating resources is a discussion. The rationale for this is that, while the seller wants to assign as much as possible to capital gain assets like goodwill, the buyer wants a good allocation for assets that can be depreciated in the future, such as equipment and real estate.
2. Purchase a partnership interest and sell it.
The selling of a partnership interest is considered a capital asset transaction, and it results in a capital gain or loss. Unrealized receivables and inventory goods, on the other hand, will be recognized as ordinary gain or loss. An Opportunity Zone investment (described in #7 below) can help you defer capital gains.
3. Make a decision on a business stock or asset sale.
If you own a corporation, you have the option of selling stock or characterizing the transaction as a sale of assets. Generally, sellers prefer to simply sell the shares in order to confine their tax reporting to the transaction's capital gain. Buyers, on the other hand, favor asset sales because it gives them a higher basis for the depreciable assets they're buying. Again, the structure of the sale can be resolved by discussions between the parties. For example, a seller may be willing to accept a lower price for a stock sale in order to offset the larger tax burden that would arise from a sale of an asset.
4. Make an S election.
C and S corporations are treated the same when it comes to determining whether the sale is a stock or asset sale. Being an S corporation, on the other hand, offers tax benefits. On net investment income from the sale of a C corporation, the owner must pay an additional 3.8 percent Medicare tax. The gain is not subject to this tax if the business is an S corporation and the owner is actively involved in the business rather than just a passive investment. If a C corporation is going to sell, it can make a S election if it meets the qualifications to be an S corporation.
5. Make use of a payment plan
One strategy to reduce the tax burden on profits from a business sale is to structure the transaction as an installment sale. You have an installment sale if at least one payment is received after the year of the sale. However, there are a few things to keep in mind. For the sale of inventory or receivables, you can't use installment sale reporting. In addition, there's always the possibility that the buyer will default on an installment selling agreement. The instructions to Form 6252 contain information about installment sales.
6. Make a pitch to staff
If your company is a C corporation, you can sell it to your employees through an employee stock ownership plan if you plan properly (ESOP). Employees own the Employee Stock Ownership Plan (ESOP) (find more information about ESOPs from the IRS). You have captive buyers and don't have to look around as a business owner. You decide on a fair sale price and receive cash from the ESOP. The proceeds can then be rolled over into a diversified portfolio to avoid paying taxes on the gain.
S corporations can also use ESOPs, however, the deferral option for an owner is not available. It's worth thinking about revoking a S election in advance of a sale.
7. Put your profit into an Opportunity Zone.
If owners who realize capital gains on the sale of their firm act within 180 days of the sale, they may be able to defer tax on those gains. They can put the money back into an Opportunity Zone (a Qualified Opportunity Zone (QOZ) Fund is used for this). Gain must be recorded on December 31, 2026, or sooner if the fund's interest is disposed of before that date, thus deferral is limited. Holding on to the investment past this period may result in future appreciation that is tax-free. Although a business owner does not have to invest all of the revenues into a QOZ, tax deferral is limited as a result.
Finally, some thoughts
Many entrepreneurs find it tough to leave their firms. They like the thrill of the chase and have no particular preparations for their retirement. They could want to talk to the buyer about establishing a consultancy agreement. This provides the departing owner with ongoing income and tax benefits (such as claiming the qualified business income deduction if eligible).
From a legal and tax standpoint, selling a firm is a complicated process. Don't go ahead without consulting a professional.
Comments