How is the Sale of a Business Taxed?

How is the sale of a business taxed?  How is the sale or transfer of my business (stock or partnership interest) taxed?  How is the sale of a business asset or group of business assets taxed?  These are common questions that a business owner or the holder of a business ownership interest such as stock or a partnership interest may ask.  The article below has been drafted to provide general information regarding the above questions or issues and is not specific legal advice for your specific issues and circumstances.  If you are considering selling your business or a business interest, you should consult directly with your tax attorney, business attorney and/or your other tax professional and related advisors.

Typically, a business will have many assets and thus the sale of the business is not the sale of only one single asset.  Generally, the sale of multiple assets of a business is treated as the sale of each individual asset to determine the gain or loss.  Thus when sold, the business assets need to be classified as capital assets, depreciable assets used in business, real property used in the business or inventory or stock in trade that is held so that the items can be sold to customers.  Again, the gain or loss on each item is calculated separately.  The sale of capital assets will result in capital gain or loss.  The sale of depreciable assets may result in ordinary income and the sale of inventory may result in ordinary income as well.

How will my partnership interest be taxed?  A partnership interest is a capital interest and will likely be treated as a capital gain or loss, but you recognize ordinary income or loss for inventory and unrealized receivables.

How will my corporate interest or corporate stock sale be taxed?  Your corporate interest is measured by your stock certificates or number of corporate shares.  Corporate stock is generally considered a capital assets and thus capital gain or loss is typically recognize, but exceptions due apply depending upon the overall circumstances of the shareholder and the corporation.

What is the tax treatment upon the liquidation of my corporation?  Corporate liquidations are generally treated as the sale or exchange of property and thus capital.  Generally, gain or loss will be recognized by a corporation on the liquidating sale of corporate assets.  Furthermore, typically gain or loss will be recognized on the liquidating distribution of corporate assets as if the corporation had sold the asset to the distibutee for fair market value.

If you have questions related to the tax treatment of the sale of your business or business interest, you may speak with a Denver tax attorney or business attorney by contacting The McGuire Law Firm.  The McGuire Law Firm provides you with a free consultation to discuss your matters with a tax attorney and business attorney.  You can call 720-833-7705 to schedule your consultation.

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Disposing of Section 197 Property

What is considered intangible property and how is the sale or transfer of intangible property taxed?  Intangible property could be considered personal property that has a value to it, but the property cannot be seen or touched.  Thus, in regards to intangible property consider property such as the goodwill from a business, which would be considered intangible property, or certain intellectual property rights such as a copyright or patent could be considered intangible property.  Certain intangible property is defined as a Section 197 intangible and is discussed more below.

Ok, so now that we have a better idea as to what would be considered intangible property, how is the sale of intangible property taxed?  The gain or loss on the sale of intangible property that has been held longer than one year, and that has been amortized or depreciated (and not treated as ordinary income via recapture rules) is considered a Section 1231 gain or loss, which has or will be discussed on other articles.  Thus, the remaining portion of this article focuses on 197 intangibles.  A Section 197 intangible would be certain intangible assets held for the conduct of business or a trade (or any activity operated for a profit) of which the costs are amortized over a fifteen year term.  Such assets would include: trademarks, trade names, goodwill, franchises, covenants not to compete when executed with the connection of a business acquisition, patents, copyrights, designs & knows (and similar items or processes), going concern value, customer or supplied based intangibles and licenses, permits or other rights granted by a government agency.

When disposing of such an intangible, it is important to note that a loss cannot be deducted from the disposition of the intangible you acquired in the same transaction, or through a series of transactions, as another Section 197 intangible you still have. You would increase the adjusted basis of the 197 intangible that you still retain, and if you retain more than one each intangible’s adjusted basis would be increased on a pro rata basis.  Furthermore, it is interesting, and important for a business purchaser to understand that a covenant not to compete, or similar type of agreement that would be considered a Section 197 intangible, cannot be treated as worthless or disposed of until the entire interest in the trade or business has been disposed of, that  was the basis or reason for entering into the covenant not to compete.

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Stock Sale

What is a stock sale?  How is a stock sale different from an asset sale?  Is a stock sale or asset sale better?  As a business attorney, these are common questions I hear from clients when they are considering selling their business.  A stock sale and an asset sale have advantages and disadvantages, which may me more pronounced to either the buyer or seller.  The article and video below have been prepared by a Denver business attorney at The McGuire Law Firm to provide information regarding a stock sale.  Please remember that the information provided on this site is for informational purposes and it is recommended that you always consult with your business attorney and/or tax attorney before entering into any business or individual transaction.

Unlike an asset sale, a stock sale is the sale of the corporate stock.  Thus, the corporate assets are not necessarily purchased, but the ownership of the corporation has changed.  Thus, with a stock sale the corporation remains.  This may be a benefit to the seller of the stock because they may only recognize capital gain on the sale of the stock, as opposed to the corporation recognizing gain under an asset sale if the corporation were a C corporation.  However, because the corporation remains, the liability of the corporation for previous acts “follows” the corporation.  Thus for liability purposes and exposure to prior corporate actions, many buyers would prefer an asset sale.  Furthermore, when buying the stock of a corporation, the buyer does not receive the same step up in basis for the corporate assets that they would have, had they purchased the assets through an asset sale.  Thus, the depreciation amounts carry over through a stock sale from the seller to the buyer, which is typically a disadvantage to the buyer.  The step up in basis to the purchase price of the assets would generally lead to a larger deduction and thus tax benefit.

There are other matters and issues to consider between a stock sale and an asset sale.  If you have questions related to the sale of your business, the purchase of a business or another business transaction, please contact The McGuire Law Firm to speak with a Denver business attorney.

Schedule a free consultation with a business attorney in Denver or Golden Colorado by contacting The McGuire Law Firm.

Allocation of Purchase Price Paid for a Business

How is the purchase price or monies paid for a business allocated?  When a business owner sells their business for a lump sum amount, the sale is considered a sale of each individual business asset as opposed to one single asset.  Of course, this would not necessarily apply if the exchange or transfer was considered a nontaxable exchange.  The article below has been prepared by a Denver tax attorney at The McGuire Law Firm to provide additional information regarding the allocation of consideration that is paid for a business.  Please remember to discuss your specific facts and circumstances with your tax attorney and/or business attorney.  You can contact The McGuire Law Firm to speak with tax attorney in Denver.

As stated above, the sale of a business for a lump sum will be treated as the sale of each individual asset.  The residual method must be used by both the buyer and the seller in allocating the consideration paid.  The residual method will determine the gain or loss from the transfer of each asset, as well as how much of the consideration paid is allocated to goodwill and other intangible property.  The buyer’s basis in the business assets purchased will also be determined through this method, and the buyer’s consideration is the cost of the assets that are acquired through the transaction.  The seller’s consideration will be the amount realized from the sale of the assets.  The amount realized would be the cash (money) received and the fair market value of any property received.

Thus, what is the residual method that will be used to determine the above issues?  The residual method is the method used whenever a group of assets is transferred whereby the group of assets constitutes a trade or business, and the buyer’s basis is determined solely by the amount that was paid for the assets.  The method applies to both direct and indirect asset transfers such as the sale of a business, or the sale of a partnership interest where the buyer’s basis of such interest is adjusted for amounts paid under Internal Revenue Code Section 743(b).  743(b) would apply if the partnership has made a Section 754 election.  The residual method provides that consideration must first reduce (or be applied to) Class 1 assets.  Thereafter, consideration is applied to Class II though VII assets.  These classes of assets have been discussed in previous articles.  Class I is cash and general deposit accounts and Class VII is goodwill and going concern.  A group of assets will constitute a trade or business if going concern or goodwill could attach to them or, the use of the applicable assets would constitute an active trade or business under Internal Revenue Code Section 355.  Thus, once a group of assets is determined to constitute a trade or business, the residual method can be viewed as a hierarchy of the application of the consideration paid for the purchase of a business into separate classes, such classes being Class I through Class VII.

If you have questions regarding how the sale of your business or the purchase of a business will be taxed, speak with a Denver tax attorney at The McGuire Law Firm.  The purchase or sale of a business involves many tax related issues that should be discussed with a tax attorney or a business attorney.  Schedule a free consultation with a tax attorney in Denver by calling 720-833-7705.

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What is Due Diligence by Denver Business Attorney

What is due diligence?  Business attorneys are commonly asked this question when business owners are considering selling Denver Business Lawyer their business or individuals are looking at buying a business or merging with a business.  Due diligence is a process and very important process!  Due diligence can be considered a legal, business and financial investigation of the company.  In conducting such investigation the seller is confident in the purchase price they are requesting and the buyer is confident they are paying a purchase price that adequately reflects the value of the business or business interest they are purchasing.  A Denver business attorney has drafted this article and below is a list of items or areas to consider when performing due diligence.

Financial Review: When performing due diligence you should review at least the prior 3 year financial history.  This review can be completed by reviewing income statements, balance sheets, profit margin analysis, tax returns, depreciation schedules, sales reports, list of assets, fixed expenses and any other item that can be produced.  As a buyer, it is important to keep in mind that you can request any document(s) you choose, but you also should attempt to keep such requests reasonable based upon the circumstances.

Employee Information: A chart or breakdown of employee information such as number of employees, key employees, employee pay and salary, employee benefits & benefit plans, employee qualifications, hiring process procedure.

Intellectual Property: Documentation regarding any patents, copyrights, trademarks, trade names, trade secrets etc.  This should including documents relating to royalties for use of any intellectual property.

Operations: A statement or chart showing how the business operates.  What is the process at each level for the business to be successful?

Customer Base Profile: A potential buyer may request a customer list or customer profile.  If I were representing a seller, I would likely be hesitant to disclose an entire customer list, but rather may provide a list of the total number of accounts or customers.

Legal and Liability Issues: A potential buyer will request disclosure of any known current legal claims or issues or potential legal claims or issues.  Additionally, the seller should be prepared to provide copies of all licenses and permits used in the operation of the business.

Contracts: Copies of contracts with all 3rd parties will likely be requested by a potential buyer.  Further, the seller should be prepared to provide copies of all lines of credit, loans and notes with third party lenders.

A business attorney at The McGuire Law Firm can assist you as a seller or a potential buyer in the due diligence process.  Our business attorneys in Denver are available to consult and advise regarding your business questions and issues.

Contact The McGuire Law Firm to schedule your free consultation with a business attorney!