Selling your business is a major financial decision and one you shouldn’t rush. There are a number of considerations to keep in mind prior to beginning the selling process. It’s important to sit down with your accountant before you start to get a good sense of the tax implications and to map out a strategy. These points will help you get the most out of the deal, while also ensuring that you know what you’ll do with the proceeds after the sale closes.
Negotiating the Allocation of the Sale
As you’re negotiating the sale, it’s important to focus on more than just the sale price. You also need to focus on how the sale price is allocated between your business assets. That’s because some assets are more advantageous for sellers from a tax perspective than others.
Assets such as buildings, real estate, equipment and goodwill can be better for sellers because the proceeds from these sales are taxed at the long-term 15% capital gains rate, not the income tax rate, which is typically higher. Short-term assets such as inventory, accounts receivables and property you owned for less than a year will be taxed as ordinary income. As a seller, you want to keep this in mind as values are assigned to assets in an effort to minimize your taxes on the sale. Of course taxes are also an important consideration for the buyer, so knowing the implications – and value – of the various deal points will help arm you with information to negotiate.
Once you’ve settled on a purchase price, you also need to figure out how to receive the payment. Taking the payment as a lump sum can seem tempting because you’ll close the deal right away. Unfortunately, this will likely push you into a higher tax bracket for the year you take the lump sum, so you could owe more in taxes.
Another option is to receive proceeds from the sale in installment payments over a number of years. There are a couple of common ways to facilitate this. The buyer can take out a loan backed by their assets, such as a home equity loan or a loan backed by the business assets. Alternatively, an agreement could be reached with the buyer enabling you to receive a portion of the company’s earnings until the sales price has been reached. While more favorable from a tax perspective, this method opens sellers up to considerably more risk, which should be factored into the deal.
Plan for the Proceeds
Before deciding whether or not to sell your company, identify your plan for the net proceeds of the sale. Do you plan to start another business? Will the sale fund your retirement or do you need to find new employment? It is important to ask yourself these questions, as the responses may become a key factor in your decision-making process.
Having the right team in place before moving forward with the sale is a great way to ensure the process moves as smoothly as possible. Establishing an estate plan, having an asset management strategy and consulting with a tax expert and trusted attorney are all ways to protect yourself – and your investment – as you move from a current to former business owner.
You’ve worked hard to build your business so you want to get everything you deserve out of the sale. Keep these considerations in mind as you carve out your plan to sell your company.
Financial Planning Association of Massachusetts member Kristin McFarland is the Director of Strategic Partnerships with The Darrow Company in Boston. The Darrow Company is a fee-only asset management and financial advisory firm focused on building and preserving the wealth for their diverse client base.
Kristin McFarland is an investment adviser representative of The Darrow Company, Inc., an SEC registered investment adviser located in Massachusetts. The material contained in this article is for general information only and should not be construed as the rendering of personalized investment, legal, accounting, or tax advice.