Trustmark Mergers & Acquisitions

Tax Implications of Selling Your Business

20.03.24 03:44 PM By MARK HERRMANN

Tax Implications of Selling Your Business

Understanding the tax implications of selling your business is a critical first step in putting it up for sale. By better understanding the tax rates that apply, it’s possible to minimize your overall tax liability and maximize the tax benefits that come with selling a business. 

Business Sale Taxation

When selling a business, the seller may be subject to taxes on the profit or gain realized from the sale.  A few taxes to consider, namely capital gains and ordinary income tax. The tax liability for selling a company depends on the type of business, the portion of the purchase price allocated to various assets, the fair market value of the assets and the tax basis of the assets. 

In addition, it’s best to understand the tax implications for C corporations, sole proprietorships, and LLCs. Each type has its own set of rules and regulations with regard to taxation.  It’s best to employ the help of a tax professional to determine your taxes before putting your business up for sale. 

One of the most significant tax considerations is a capital gains tax. Capital gains are profits from selling capital assets, such as stocks, real estate and business assets. When you sell your business, the capital gain is the difference between the sale price and the original cost of the assets (this is referred to as the tax basis). The tax rate for these depends on how long you’ve owned the assets before selling. Generally, the tax rate is lower for long-term capital gains (assets you’ve held longer than a year) compared to short-term capital gains. For 2023-2024, the long-term capital gains rate is either 0%, 15% or 20% depending on the seller’s income tax bracket.  A tax professional can help you determine your rate and help you categorize the gains as short- or long-term gains. 

In addition to capital gains, business owners may be subject to ordinary income tax rates. Ordinary income is the money earned from the sale of the services or goods, such as salaries, wages and business income. When a business is sold, a portion of the purchase price is allocated to the tangible assets. 

In some cases, the sale of a business can be tax-free, such as a like-kind of exchange under Section 1031 of the Internal Revenue Code.  A like-kind exchange allows the seller to defer paying taxes on the gain from the sale if they use the proceeds to purchase a similar asset within a certain time period. 

Selling a business and the tax implications that come along with it can be complex and confusing. We strongly recommend a trusted tax professional to guide you through the process before you put your business up for sale. By working with a tax professional and business broker, you can be assured of navigating the complexities. 

-Parts of this article taken from BizBuySell.