What Are the Tax Considerations When Buying or Selling a Business?: 4 Things You Need to Know

August 03, 2020   |   Business

Tyler Davis discusses 4 things every investor should know when considering buying or selling a business.

When most people decide to sell a business, their first question is often: “How much can I sell the business for?” While that is an important question, an equally important query is: “What are the tax considerations if I sold my business?” Here are four things you need to know:

  1. Understanding the Legal Entity of the Business
  2. Analyzing Whether Selling Stock or Assets
  3. Determining How to Allocate the Purchase Price to Specific Business Assets
  4. Developing Strategies for Real Estate Involved in the Deal

If you are a business owner interested in selling your business or acquiring a new business, the first conversation should be with your tax CPA. Understanding the tax consequences is essential to negotiating and establishing a purchase price.

1. Understanding The Legal Entity Of The Business

The first step in evaluating a transaction is to understand the legal entity in which the business operates. Is the business a single-member LLC? A multi-member LLC? Did the LLC elect to be taxed as an S-Corporation? Is the business a C-Corporation? Sole Proprietorship? Each of the different types of business entities are taxed differently. If you don’t know your business’s legal structure, the first place to check is the tax return filed for your business the previous year. As advisors in a transaction, one of the primary sources of information needed to evaluate your business would be the prior three years’ worth of tax returns.

2. Analyzing Whether You Are Selling Stock Or Assets

Another consideration is to analyze whether you are selling stock or assets. The buyer will more than likely want to purchase the company’s assets because they will receive a stepped-up basis in the assets to the purchase price (which allows for more depreciation on the assets than if they had purchased the stock). For a deal structured as a stock transaction, the buyer would receive a carryover basis in the assets they receive (there is no step-up in their basis in the assets). Thus, the price a buyer is willing to pay in a stock deal is generally less than in an asset deal. Depending on the type of deal and entities involved, Internal Revenue Code Section 338(h)(10) allows both the buyer and seller to be happy. IRC 338(h)(10) allows the treatment of a stock sale as an asset acquisition that enables the buyer to receive a stepped-up basis in the business’s assets despite acquiring stock.

3. Determining How To Allocate The Purchase Price To Specific Business Assets

Another powerful negotiating tool is allocating the purchase price to the specific business assets or classes of assets. The tax on some assets the company sells would be at the higher ordinary income rates with other assets taxed at the lower beneficial capital gains rate. The allocation of the purchase price must be consistent between the buyer and seller. Thus, understanding each type of asset’s tax implications in the sale is essential and can affect the overall purchase price. Additional tax issues arise when allocating some of the purchase price to “goodwill” or other intangible assets. Because businesses often have value outside of tangible assets (ex: trade secrets, customer lists, reputation, etc.), purchase prices sometimes exceed the fair market value of the identifiable tangible assets.

4. Developing Strategies For Real Estate Involved In The Deal

One final consideration is the real estate involved in the transaction. Generally, in business sales, the business assets are treated separately from the real estate involved. If the selling business owns the building or office rather than leasing, tax planning around the transaction’s real estate portion is critical. For example, the buyer would be eligible to do a 1031 Exchange on the sale’s real estate portion.

These are just four of the many  factors an owner should consider before selling a business. At SVN | Saunders Ralston Dantzler, we provide business brokerage services to clients across Florida. Please let us know how we can assist in your sale or purchase.

This article should not be construed as, and should not be relied upon as legal or tax advice.

Tyler Davis
Tyler Davis brings a wealth of financial knowledge to our team at SVN | Saunders Ralston Dantzler. His history in tax planning and consulting services have supported some of the largest insurance companies across the nation. Tyler's experience in finance has supported him throughout his c...