My research indicates that sellers nearly always prefer to structure
the transaction as a stock sale so that they are taxed at long term
capital gains rates rather than ordinary income tax rates.
Furthermore, such a sale transfers any liabilities with the business
to the buyer.
"In certain situations, the Internal Revenue Code allows a stock sale
to be treated as an asset sale for tax purposes. This election is
found under Section 338(h)(10) of the Internal Revenue Code and is
generally referred to as a "338(h)(10) election." The election can be
advantageous to both the seller and the corporate purchaser. In
certain situations it will result in higher after-tax proceeds to the
selling shareholders and more value to the purchaser." "Taxable Sales
Of S Corporations" M&A Insights, PiperJaffray (May 2001)
http://www4.pjc.com/443. To meet this criteria, the purchaser must be
a corporation.
There is no straightforward formula for estimating your taxes,
particularly if the sale is an asset sale and/or you opt for an
installment method for receiving payment. The nature of your S
Corporation, and how you elect to structure the sale, make the
calculation very complex. This source provides you with a good
overview of the relevent factors: "Short Takes" Advanced Market
Advisors (July 1, 2004)
http://advancedmarketadvisors.com/newsletters/Short%20Takes%207-1-04%20Selling%20S-Corporations.pdf.
A basic stock sale is more straightforward. "Selling shareholders pay
tax on the capital gain equal to the purchase price for the stock less
the tax basis of the stock and the transaction costs." "Taxable Sales
Of S Corporations" M&A Insights, PiperJaffray (May 2001)
http://www4.pjc.com/443.
With a stock sale:
"You enjoy low capital gains tax rates instead of high ordinary income
tax rates on sales of assets acquired by the corporation after the S
election or after the 10-year built-in-gains period.
The tax basis of your stock is increased dollar-for-dollar for
un-drawn profits. For example, if profits of the S corporation over a
period of years were $900,000 and you only took $400,000 as tax-free
dividends, the basis of your stock would increase by $500,000. If you
sold your stock, that $500,000 would be tax-free."
"BLACKMAN ON TAXES" BY IRVING L. BLACKMAN, Contractormag.com
http://www.contractormag.com/articles/column.cfm?columnid=262
In conclusion, the generally preferred way to structure the sale of a
S Corporation is as a stock sale with a 338(h)(10) election. However,
you will want to determine how much the buyer is benefiting from the
election so that the purchase price compensates you accordingly. This
is a very complicated calculation.
If such an election is not possible, a stock sale is still generally
preferable from a tax and liability standpoint under most
circumstances. Given the complexity of calculating the taxes
associated with the sale of a S Corporation, I suggest you contact a
CPA experienced in the sale of S Corporations who can review the
particulars of your S Corporation and calculate the probable tax
effects. However, to give you a starting point for a stock sale, you
can take the purchase price, subtract the sum of your cost basis in
the stock and any costs you expect to incur as part of the
transaction, and multiply by your long-term capital gains rate
(probably 15%).
"Getting Out of Your Business" Business Owner's Toolkit, CCH Inc.
(2006) also has a number of useful articles relating to the sale of
businesses and their associated taxation:
"Capital Gains/Ordinary Income" http://www.toolkit.cch.com/text/P11_2452.asp
"Installment Sales" http://www.toolkit.cch.com/text/P11_2454.asp
"Tax on Stock or Asset Sales" http://www.toolkit.cch.com/text/P11_2456.asp
"Tax-Free Reorganizations" http://www.toolkit.cch.com/text/P11_2458.asp
Sincerely,
Wonko
Search terms: "selling an S Corporation"; "sale of an" "S Corporation" |
