A Lesson Learned: Consider Cash Flow And Taxes When Selling To An Insider
Recently, one of my clients came in to meet me with a purchase agreement and promissory note. He’d sold his business to two of his employees. I looked at it briefly and wondered why he hadn’t discussed it with me prior to this. I would have given him some ideas on how to save tax monies and how not to transfer ownership without getting his money first. Here’s a little of what I would have told him, and what you should think about if you’re in a similar situation.
When you consider selling your business to an insider (someone who works for your company) there are several things that must be taken into consideration.
The first is cash flow. Typically, employees, children of the owner, etc. don’t have the funds to purchase the business outright and the banks won’t always loan them the necessary money. The business cash flows need to pay you the money needed for you to retire. There are many ways to do this and keep control until you get paid.
If you transfer the title to the business prior to getting your monies you carry the entire note. What happens if the new owners can’t or don’t pay you in a timely manner? Do you really want the business back? Can you sell it again? These are all concerns my client now faces.
The second important item is the taxes that are paid. Capital gains taxes were incurred when my client sold his business and income taxes were paid on the monies the new owners paid on the income before they paid my client back. My client received the money and paid his own income taxes on the same money. That’s double tax.
I would have designed a plan that paid my client from the cash flows of the business and he would have paid tax once. As he got more of his money, he would have transferred more of his shares to the new owner. This way he doesn’t have to lose control of his company before getting his money and he doesn’t have to finance the entire loan. This way he has little risk of having to take his company back.
Cash flow and tax planning when transferring to an insider is very important. You don’t want the IRS to get more monies than required.
Contact us before you’re in the same situation and we’ll ensure your money stays with you. Contact us for a free evaluation.