Baby boomers own 2.3 million businesses, according to Project Equity. So, let us see Tax Strategies for selling business. The nonprofit predicts that 6 out of 10 business owners plan to sell their businesses within the next decade. If you’re one of those numbers or a younger generation of owners thinking about selling your business. Keep these seven tax considerations in mind.
Negotiate everything for the sale of the self-employed
If your business is a sole proprietorship, the sale will be treated as if you sold each asset separately. Most assets trigger capital gains that are taxed at favourable tax rates. But the sale of some assets, such as inventory, creates current income. It is up to the parties to negotiate the terms of the sale. So, which includes assigning the purchase price to the assets of the business.
IRS Form 8594, Asset Acquisition Statement, lists seven classes of assets to which you must assign a purchase price. The first class includes cash and checking accounts to which you assign the purchase price dollar for dollar. The last class (Class VII) is for goodwill and going concern value. It is an intangible asset that forms part of the purchase price. The more reputation the business had, the greater the allocation to this class.
Keep in mind that allocation is a negotiation. The reason: is that the seller wants to allocate as much as possible. So, to the capital gain of assets such as goodwill. The buyer wants a good allocation of assets such as equipment. Also, real estate can be depreciated in the future.
Sell the partnership interest
The sale of an interest in a company is considered a capital asset transaction; results in a capital gain or loss. But a portion of the profit or loss from unrealized receivables or inventory items will be treated as ordinary profit or loss. Capital gain deferral is possible through an opportunity zone investment (explained in point 7 below).
Decide on a corporate sale of shares or assets
If you own a company, you have a choice on how to structure the sale. So, to sell stock or characterize the transaction as an asset sale. Sellers generally like to simply sell the stock to limit tax reporting on the capital gain from the transaction. But buyers prefer asset sales because it creates a higher basis for the depreciable assets they acquire. Again, negotiations between the parties may resolve the structure of the sale. For example, a seller may be willing to take slightly less to complete a stock sale. Reflecting the higher tax burden that would result from selling the assets.
Tax Strategies for selling a business: Select S
The characterization of the sale as a sale of stock or assets applies equally to C and S corporations. But there are tax savings to be reaped by being an S corporation. The gain on the sale of a C corporation requires the owner to report an additional 3.8% Medicare tax on that net investment income. In contrast, if it is an S corporation and the owner is actively involved in the business and not just a silent investor, then the gain is not subject to this tax. A C corporation that plans to sell can make an S election, if applicable, provided the corporation meets the requirements to be an S corporation.
Take advantage of instalment sales
One way to minimize the tax burden on profits from the sale of a business is to structure the deal as an instalment sale. If at least one payment is received after a year of the sale, you automatically have an instalment sale. But there are a few points to keep in mind. Instalment sales reporting cannot be used for sales of inventory or receivables. And with an instalment sale agreement, there is always the risk that the buyer will default. Details on instalment sales are in the instructions for Form 6252.
Tax Strategies for selling a business: Sales to employees
If your business is a C corporation and you plan, you can sell your business to your employees through team member stock ownership plans (ESOPs). An ESOP is employee-owned (see the IRS for more information on ESOPs). From the owner’s point of view, you have captive buyers and you don’t have to look for them. You set a reasonable price to sell and receive cash from the ESOP. So, you can then roll the proceeds into a diversified portfolio and defer tax on the gain.
You can also use ESOPs for S corporations, but the owner deferral option does not apply. Cancelling the S option in anticipation of a sale is something to consider.
Reinvest the profit in the opportunity zone
Owners who realize capital gains from the sale of their business have a way to defer tax on that gain if they act within 180 days of the sale. They can reinvest their earnings in the Opportunity Zone (for this you go to the Qualified Opportunity Zone (QOZ) fund). Deferral is limited as the gain must be booked on 31 December 2026 or earlier if the fund share is sold before that date. Holding the investment after this date can lead to tax-free gains from future appreciation. An owner who sells his business does not have to put all the proceeds into QOZ, but the tax deferral is limited accordingly. Contact the IRS for details on Opportunity Zones.
Many business owners find it difficult to walk away from their businesses. They love action and have no personal plans for their time in retirement. They may consider entering into a consulting agreement with the buyer. This gives the outgoing owner ongoing income and ongoing tax benefits (such as qualifying business income deductions if eligible). Source: Definitive Guide