Taxes and Selling Your Business

A Guide for Business Owners

As business brokers, it is our job to highlight potential risks and concerns to our clients. The most important take-away is to recommend that our clients get professional advice in each relevant field. Here are some top-of-mind tax considerations worth sharing with business owners.

1. Capital Gains Tax:

• Implications for Business Owner: Profits from the sale of a business are subject to capital gains tax. The rate depends on the holding period of the business (short-term or long-term) and the owner’s individual income tax bracket.
• Summary: Minimize the holding period to qualify for lower long-term capital gains rates. Consider structuring the sale to spread proceeds over multiple years if facing a high-income year.

2. Depreciation Recapture:

• Implications for Business Owner: Depreciation claimed on certain assets over time can be recaptured as ordinary income upon sale. This creates a higher tax burden than capital gains.
• Summary: Accurately track asset depreciation and consider selling depreciated assets separately to minimize recapture.

3. Installment Sale Election:

• Implications for Business Owner: Allows spreading sale proceeds and tax payments over multiple years, potentially delaying a large tax liability.
• Summary: Useful for larger transactions and clients facing high-income years. Requires specific contract terms and IRS approval.

4. Basis Adjustments:

• Implications for Business Owner: The seller’s “basis” (original cost plus improvements) in the business affects the taxable gain/loss. Expenses like renovations can increase basis and reduce taxable gain.
• Summary: Document all allowable business expenses and basis adjustments to minimize taxable gain.

5. Section 121 Exclusion:

• Implications for Business Owner: Up to $250,000 ($500,000 for married couples filing jointly) of capital gains on the sale of a “qualified small business” can be excluded from taxable income.
• Summary: Applicable to certain small businesses owned for at least five years. Allows significant tax reduction.

6. Passive Activity Loss Limitations:

• Implications for Business Owner: Losses from a business not actively participated in may be limited in deducting against other income.
• Summary: Ensure active participation in the business to utilize potential losses for tax benefits.

7. State and Local Taxes:

• Implications for Business Owner: State and local tax rules governing business sales and capital gains might differ from federal rules.
• Summary: Consult with a tax professional familiar with state and local tax laws for accurate guidance.

8. Tax Implications of Different Sale Structures:

• Implications for Business Owner: The tax consequences can vary depending on whether the sale is structured as an asset sale, stock sale, or merger/acquisition.
• Summary: Understand the tax implications of different sale structures before finalizing the deal. Consult with a tax advisor for complex transactions.

9. Recordkeeping and Documentation:

• Implications for Business Owner: Maintaining meticulous records of business operations, expenses, and sale documentation is crucial for accurate tax reporting and potential IRS audits.
• Summary: Implement an organized recordkeeping system and retain all relevant documents for at least seven years after the sale.

10. Seeking Professional Advice:

• Implications for Business Owner: Navigating complex tax rules surrounding business sales can be challenging.
• Summary: It’s crucial for business owners to seek guidance from a qualified tax professional throughout the selling process to ensure optimal tax strategies and compliance.

Remember, this information is general and does not constitute tax advice. Please consult with a qualified tax advisor to discuss your specific situation and receive personalized guidance.