Changes In The Capital Gains Tax Will Hurt Business Sellers

Thinking of selling your business? If you have planned itsale is an asset sale or a stock sale. First, unless you
correctly, most of your transaction proceeds should beare planning on going public or have hundreds of
long term capital gains. Given the current politicalstockholders do not form a C Corp to begin with. Use
climate and the upcoming change in the White House,an S Corp or an LLC. If you currently are a C Corp
capital gains taxes will come under attack. If you are aask your attorney or tax advisor about converting to
business owner and are thinking of selling youran S Corp. If you sell your company within a 10-year
business within the next 5 years, you may want toperiod of converting to an S Corp the sale can be
move up your exit timeframe.  taxed as if you were still a C Corp.
The reduced 15% tax rate on capital gains, previouslyHere is what happens when there is an asset sale of
scheduled to expire in 2008, has been extendeda C Corp. The assets that are sold are compared to
through 2010 as a result of the Tax Reconciliation Acttheir depreciated basis and the difference is treated as
signed into law by President Bush on May 17, 2006. Inordinary income to the C Corp. Any good will is a
2011 these reduced tax rates will revert to the rates in100% gain and again is treated as ordinary income.
effect before 2003, which were generally 20%.This new found income drives up your corporate tax
We believe that with the AMT currently targeted forrate, often to the maximum rate of around 34%. You
elimination, the $800 billion will be made up by raisingare not done yet. The corporation pays this tax bill and
taxes elsewhere, and I believe this "owner of capital"then there is a distribution of the remaining funds to the
tax is the most vulnerable for increase. I expect thatshareholders. They are taxed a second time at their
the long term capital gain tax rate will be moved to anlong term capital gains rate.
upper limit of 28% by late 2010 for the high end incomeCompare this to a C Corp stock sale. The stock is
bracket.sold and there is no tax to the corporation. The
Translation, the business seller is going to take a big hitdistribution is made to the shareholders and they pay
on his after tax proceeds if his business sale isonly their long term capital gain on the change in value
concluded after November 1, 2010. Let's look at a quickover their basis. The difference can be hundreds of
example. A 63 year old man started his business 25thousands of dollars.
years ago and he sells it for $5 million. All his equipmentThis anticipated change to the capital gains tax rates
has depreciated so his basis is approximately $0.will certainly add to the complexity of selling a business.
Under current tax laws he would have a $5 millionI cannot stress how important a factor taxes will be in
capital gain from the sale of his business. His after taxyour successful business exit. Here is my summary
proceeds would total $4,250,000.checklist:
If he sells after November 1, 2010, and the tax lawsTax Consideration Checklist
change as I am predicting. The same sale would netGet Good Advice on Original Corporate Structure
him $3,600,000. He lost $650,000 because of thisIf C Corp - Retain Ownership of all Appreciating
change. If you wait until the actual change is voted intoAssets Outside Corporation - i.e. Real Estate, Patents,
law, there will be a rush to the exits causing anFranchise Rights to avoid double taxation
unusually high number of businesses to be for sale.Look at Deal Economics First, Taxes Second
That would further reduce proceeds for the sellerMake Sure Your Transaction Support Team has Deal
because of supply and demand pressures.Experience
The most important tax issue, however, for theBefore You Go To Market, Work With Your Team to
business seller continues to be the corporate structureUnderstand Deal Structure vs.
(C Corp, S Corp, or LLC) and whether the business