If you own a small business and you are planning to sell the company, you must understand the financial implications of the sale before doing so. Failure to plan for the tax-related impact of the sale can result in an unexpected bill, while careful consideration can minimize your tax burden.
These are the most important tax factors to keep in mind when selling a small business.
Capital gains tax
Many small businesses operate as pass-through entities, which means the owner reports income and losses on his or her individual tax return. If you have a sole proprietorship, partnership or limited liability company with this tax structure, the profits from the business sale are subject to a one-time capital gains tax.
If you have structured the sale of the business so that the buyer will pay you in installments over time, the installment plan will affect your taxes. Generally, you can defer the capital gains tax on the profit until you actually have the funds in hand. When you receive the entire proceeds of the sale at the same time, you may ascend into a higher tax bracket and pay a higher percentage than you would otherwise owe.
Allocation of assets
When you sell your business, the purchase agreement allocates some assets as capital gains and others as regular income. The latter category is subject to a higher tax rate. Structure your agreement so that the maximum possible amount of assets fall under the capital gains tax while adhering to IRS regulations about asset allocation.
Merger or corporate acquisition
If another corporation purchases your business and you have stock, you may be able to structure a tax-free sale. This type of agreement falls under the category of a merger as the buyer converts stock shares from your company to his or her company.
Because tax laws are so complex, you should seek professional guidance to avoid legal trouble. Consult with an experienced advocate before making the decision to sell your small business.