For business owners seeking a successor, the right person may be obvious. If you have a co-owner or partner, a buy-sell agreement can establish the terms; if a younger family member is willing and able, you can decide on a way to transfer control. Otherwise, there may be a key employee who is a logical candidate – or you might hire someone to take over in time.
In some cases, though, this type of “inside” succession plan won’t be possible or practical. You’ll have to go outside to find a buyer who will take your place or who will hire someone to run the company. An outside sale can be financially rewarding, especially if there are numerous bidders, but it also may require more time and effort than a transition to a successor you already know.
An outside buyer will want to know what he or she is purchasing, in great detail, so be prepared to divulge an enormous amount of information about your business. One possible approach is to get your books and records in order, then hire a reputable appraiser to value the company. With that valuation you can set an asking price, which may limit the amount of “tire kickers” and bring out serious buyers.
Negotiations can proceed from there, and not just on the purchase price. The new buyer may want you to stay on for some period of time; in many acquisitions, the ultimate purchase price may involve some type of earnout, where you would receive additional payments based on the business’ future performance. The more prepared you are, from a financial as well as a personal commitment standpoint, the more likely the final terms will be agreeable.
The sale of an asset as valuable as a successful business probably will generate significant tax issues. You will want to maximize the amount you’ll receive, but a huge cash inflow in one calendar year is likely to result in a large tax bill at year-end. Even if the amount is favorably taxed as a long-term capital gain, you also might trigger various surtaxes and phaseouts, so that your true after-tax amount winds up being less than expected.
Accepting an installment sale, with proceeds coming in over several years, could make the transaction less taxing. The buyer may be more comfortable with this arrangement as well. If an earnout is part of the agreement, you might be able to structure the package so that it’s heavy on sales taxed at capital gains rates and lower on earned income, which is generally subject to higher ordinary tax rates.
Keep in mind that the buyer will have tax concerns, too. Often, a business buyer will prefer to acquire the company’s assets rather than shares of stock. Those assets may get a new basis, generating larger depreciation deductions. Such a deal structure might not be as favorable to you, the seller, but you might negotiate a larger purchase price in return for some concessions there.
Expect the buyer to have a tax professional on their team to request favorable terms. If you are selling your business to an outside buyer or to an insider, my office can help you come away with a tax-efficient succession.