Be it for retirement planning or a shift in your business plan, selling a business is quite common in today's economy. While it's true that you'll be paid a lump sum amount by the buyer, the tax liabilities are often huge.
Here are 7 tax strategies you should consider while selling a business that will help you save some serious bucks.
When you decide to sell off your business, you have to determine the value of your business assets. In this case, besides the actual cost of an asset, you can also include the expenses you incurred while installing it (for example, the purchase and installation of machinery). If you have trained and educated your employees, you can consider those expenses too. However, to be able to report the asset value and the associated costs correctly, you have to maintain records of these expenses. By reporting these, you can reduce your capital gain tax liability to a certain extent.
Purchase price allocation (PPA) is a method in which the acquirer allocates specific prices to the purchased assets and liabilities. The components of PPA include net identifiable assets, write-ups, and goodwill. This is an area where you'll have to make negotiations. As a seller, if you're able to allocate the majority of the purchase price to the capital assets of the business, then the purchase amount will be considered under capital gains tax. At present, the capital gain tax rates (long term) are considerably lower.
Another important point to consider is the type of business entity you own. In the US, businesses fall into 4 categories – LLC, Partnership, S Corporation, and C Corporation. If your business falls into the first three categories, then you'll pay taxes on the company's profits and profits earned from the purchase. Corporate taxes are not applicable here. In the case of a C Corporation, the shareholders are liable to pay corporate tax, and this calculation is more complex than in the first three entities.
When you're selling your business, the transactions can be of two types – one, you are selling the company stocks to the buyer/acquirer, and two, you're selling the company assets. Your buyer will usually prefer to go for the assets, as it gives them tax benefits, and as a seller, you won't have to incur any extra tax liability for this. However, if you're selling a C Corporation, you would want to sell stocks of the company and not the assets, as the latter would attract both corporate and shareholder taxes.
You have to consider the terms of sale before proceeding with the selling process. Your buyer may want to pay cash at closing, through an earnout, an equity rollover, or a combination of these. Among these methods, cash at closing offers the most security and value for the seller. However, buyers often try to negotiate the deal and opt for an earnout. In this scenario, the buyer pays a part of the total amount in cash, and the rest of the amount over a period of years, based on the company's performance. But this term is not exactly profitable for you as a seller, as after the acquisition is complete, you'll have little to no influence to boost the company's performance.
Selling your business attracts both federal and state taxes. It would be a smart move to plan your taxes ahead of time, so you can legally minimize the tax liability as much as possible. While you cannot avoid federal taxes, there is a way to reduce state taxes. If you reside in Florida, Alaska, Nevada, South Dakota, Washington, or other income-tax-free states, and you make your transactions there, you won't have to pay capital gain taxes (other taxes might be applicable based on the state). This is a significant point to consider, as you'll end up saving a large amount of the sale proceeds.
You can consider selling your business and getting paid in installments. While this might sound like a risky affair, it has its perks. You will have the option to defer taxes until you receive payment. However, you cannot apply the installment method to all of your assets. For more clarity, talk to an accountant.
A tax professional can save your valuable time and resources, and make the tax filing process seamless for you. If you have made up your mind to sell your business and you want expert advice on how to minimize tax liability, or you have already sold off your business and you need help with the taxes, Accountants Now is here to guide you. Contact us today.
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