Selling a business is a major financial event, but the purchase price is only one part of the equation. Sometimes, the more important factor is the after-tax proceeds: what an owner walks away with after transaction costs, debt repayment, and other tax implications of selling a business.

Asset Sale vs. Stock Sale

In an asset sale, the buyer purchases selected business assets and may choose which liabilities to assume. In a stock sale, the buyer purchases the owner’s shares or membership interests and takes on the company as a whole.

Asset sales have certain tax benefits for buyers, including assigning value to individual assets and establishing new tax bases. For sellers, however, taxes can be more complicated. Different assets may be taxed differently, and some gains may be treated as ordinary income rather than capital gains.

A stock sale may be more favorable for sellers, particularly when the ownership interest qualifies for long-term capital gains treatment or other tax benefits like a qualified small business stock exclusion (QSBS).

Why Deal Structure Drives Your Tax Bill

Tax treatment of a sale depends on both the deal structure and the entity that owns the business. Most privately held companies operate as a pass-through entity, such as an LLC, S corporation, or partnership. In these structures, business and taxable income passes through to the owners’ personal tax returns.

C corporations operate differently. If a C corporation sells its assets, the corporation may first owe tax on the gain. When the remaining proceeds are distributed to shareholders, they may owe double taxation, which can reduce the net proceeds.

A stock sale involving a C corporation is generally taxed differently because the shareholders sell their ownership interests directly. In that case, the gain is recognized at the shareholder level rather than first being taxed as a corporate asset-sale gain and then again when distributed.

Capital gains vs. ordinary income can also produce different tax results. Long-term capital gains may qualify for lower federal rates, while gains allocated to certain tangible assets, depreciation recapture, or other categories may be taxed at ordinary income rates.

For example, equipment, vehicles, and other depreciable assets may not receive the same treatment as goodwill or certain intangible assets. The taxable gain depends partly on the asset’s tax basis: the amount used to determine the taxable gain.

State Taxes

Each state has its own tax laws and rates. For example, California does not have a preferential rate for long-term capital gains, while Massachusetts imposes a surtax of 4% on all annual taxable income greater than $1M (indexed for inflation in 2023).

Some states like Texas, Florida, and Nevada don’t tax individual income or capital gains at all. Others like California, New York, and Illinois tax capital gains at their standard individual income tax rates.

Then there are states that offer special deductions. New Mexico allows a general net capital gains deduction of up to $2,500, or 40% of up to $1 million of capital gains, while South Carolina excludes 44% of net long-term capital gains.

Buyers-Seller Gap

Because buyers often prefer asset sales and sellers often prefer stock sales, the structure can become an important negotiation point. Depending on the sale, a seller may seek a higher purchase price, a tax gross-up, rollover equity, installment payments, or another provision to help offset the additional tax cost of the buyer’s preferred structure.

Planning Ahead of the Sale, Not After

Most business owners spend years building enterprise value, then start exit planning the week they decide to sell. Coordinating with tax and legal advisors before you list lets you structure the transaction around your actual goals.

An advisor who holds the CExP™ designation has received specialized training in exit planning strategies.Certified Exit Planners can help owners consider various aspects of a sale, including tax, legal, and personal considerations, often in coordination with other professionals.

The goal is to help you consider deal structures that may support your tax position, liquidity needs, personal goals, and long-term financial health.

Registered Representative and Financial Advisor of Park Avenue Securities LLC (PAS). OSJ: 5280 CARROLL CANYON ROAD, SUITE 300, SAN DIEGO CA, 92121, 619-6846400. Securities products and advisory services offered through PAS, member FINRA, SIPC. Financial Representative of The Guardian Life Insurance Company of America® (Guardian), New York, NY. PAS is a wholly owned subsidiary of Guardian. LIVING LEGACY FINANCIAL INSURANCE SERVICES LLC is not an affiliate or subsidiary of PAS or Guardian. Insurance products offered through WestPac Wealth Partners and Insurance Services, LLC, a DBA of WestPac Wealth Partners, LLC. CA Insurance License #0F64319, AR Insurance License #9233390 | This material is intended for general use. By providing this content Park Avenue Securities LLC and your financial representative are not undertaking to provide investment advice or make a recommendation for a specific individual or situation, or to otherwise act in a fiduciary capacity. Guardian, its subsidiaries, agents and employees do not provide tax, legal, or accounting advice. Consult your tax, legal, or accounting professional regarding your situation. 9129377.1 Exp. 09/28