In 2021 Tax Tips

Tax Tips For Selling Your Business

Whether you’re planning to sell your small business or just beginning to consider your options, there’s no right or wrong way to go about it. While every small business is different, being clear about your sales process can help you make smarter decisions, minimise your risk and protect your interests. Here are some things to consider when selling your small business:

Plan ahead

Selling a business of any size requires careful planning and considerable action. But it’s not as simple as flicking a switch from running a business to selling one. To get yourself and your business prepared – planning ahead is crucial.

Start by getting your books in order and making sure your cash-flow is healthy. If you notice any areas of your business that needs attention, you need to address them as they could be deal-breakers for potential buyers. Because the process of selling is time-consuming and can be a distraction from the day-to-day running of the business, putting processes in place can help with keeping the wheels in motion.

Books in order

Your books are essentially the lifeline of your business and any small business owner can vouch that books don’t balance themselves. In all likelihood, a potential buyer will go straight to your financials to assess their risk. Books that haven’t been properly managed can be a red flag for a potential buyers, so before you even think about putting the business on the market – invest in bookkeeping. As part of the due diligence process, a potential buyer may want to see financial records such as:

  • Profit and loss statements for the past 24 to 36 months
  • Current balance sheet
  • Any financial forecasts and business plans
  • Any bank loans or line of credit loans
  • Details of your business’ financial systems and processes
  • A detailed breakdown of the outgoing costs

The right representative

Starting and running a business are very different skills to selling a business. While you may know your business and industry inside out, navigating the process of sale is an entirely different story. Bad advice can cost you, so always do your research and make sure you find the right person to represent your sale.

Whether that’s a broker, advisor, accountant, lawyer or a combination of advisors, having the right person beside you can make or break the transaction. As much as you’re selling your physical business, there’s also an emotional element at play and letting go can be a difficult process. Having a neutral third party can help mitigate that and ensure the process starts on point and stays on track.

Don’t skimp on legal advice

The process of selling a business is relatively complicated. With so many moving parts and decisions to be made, it can quickly become overwhelming. In addition to financial considerations, there are a lot of legal implications when selling a business, both from a compliance and financial perspective.

When it comes to legal advice, the best advice one can receive is to never cut corners. Always seek professional, reputable advice from a commercial lawyer who understands the ins and outs of selling your business. Not only can the right advice help you get the best price but it can also save you from making a costly mistake once the deal is done.

Don’t rush due diligence

As painful as due diligence may be, it’s a valuable and necessary process for both parties. The potential buyer has an opportunity to dig a little deeper and understand your business and the opportunity. At the same time, you as the seller can get to know the potential buyer and scope out whether this is the right opportunity before entering into a contract. Both your lawyer and accountant can help with this process.

Don’t sell to the wrong buyer

You’ve poured your blood, sweat and tears into your business so it’s easy to get carried away in cashing in on your efforts. Not all deals, no matter the price tag, will work in your favour so it pays to pick the right buyer. Your first offer may not be your best offer so before leaping at the opportunity, make sure you understand what your risks and rewards are. In some cases, business sales can turn sour when the new owner takes over which may leave you without a full payout. Always have a lawyer and accountant evaluate the offer to make sure you know where you stand legally, financially and from a taxation perspective.

‍Tax Tips For Selling Your Business

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There are many taxation issues that may arise when selling your business. While there is no magic bullet to maximise your tax position for every business sale, there are some key points that may prove to be money-savers if you factor them into your sale negotiations, writes Eddie Chung.

The following points will help clear up some common misunderstandings and oversights when it comes to selling a business and ensure you receive the best possible value for the asset you have worked hard to build up:

Do Not Apportion The Sale Price Across Various Assets On The Contract

It is likely that maximising or minimising the values associated with certain assets (e.g. trading stock, depreciating assets) to optimise your tax position may deteriorate the purchaser’s tax position.

Avoiding contractually attributing set values to the assets enables the parties to attribute independent values to those assets based on a reasonable allocation and apportionment of the total transaction value across all of the assets sold. This affords both parties some flexibility to independently optimising their respective tax positions.

Delay The Contract Date Where Possible If The Agreement To Sell Is Near The End Of The Financial Year

For capital gains tax (CGT) assets – which include assets such as goodwill and real property – the CGT event associated with their sale is generally crystallised on the date of the contract rather than the settlement date.

Therefore, delaying the contract from, say, 30 June 2016 to 1 July 2016 will have the effect of delaying any CGT payable on the sale for 12 months. -Thus, taxdeferred is tax saved.

Negotiate To Make A Separate ‘accrued Leave Transfer Payment’ To The Purchaser Where Possible

This is because the payment will be tax-deductible to you as the seller. This contrasts with the situation where the unpaid leave liabilities are adjusted against the overall sale price of the business, which may reduce your CGT instead.

Given the potential application of the 50 per cent CGT discount and/or other CGT concessions, the tax benefit associated with paying the unpaid leave employee entitlement and claiming a tax deduction for it is likely to be significantly greater than the tax benefit from reducing the sale price of the business by the liabilities assumed by the purchaser. 

A word of caution, though: specific conditions must be satisfied before the payment is treated as an ‘accrued leave transfer payment’.

For instance, the payment must be made to another entity that has begun (or is about to begin) to be required to make payment in respect of the leave liability under an Australian law, award, order, determination or industrial agreement.

Therefore, if you are selling your trading entity to the purchaser and that entity will continue to be liable for the payment of the leave liability in future, the payment may no longer qualify as an accrued leave transfer payment.

Consider If There Are Ways To Pass On Any Carried Forward Tax Losses You Have Incurred During The Course Of Your Ownership Of The Business To The Purchaser

Doing so gives you negotiation leverage and potentially increases the sale price. However, be mindful that the ability of the purchaser to use those tax losses will depend on a number of factors.

For instance, as tax losses are attached to the particular entity that incurred the losses, the purchaser will need to purchase the trading entity to acquire those losses; certain conditions associated with the loss recoupment rules for the specific type of entity must also be satisfied for the losses to be available to the purchaser. 

Further, being able to sell your interest in the entity (e.g. shares in a trading company), rather than selling your business out of the entity, may also enable you to access other concessions, such as the 50 per cent CGT discount, that would not otherwise be available. 

Suppose the purchaser is reluctant to buy the entity and inherit the historical trading risks of the business. In that case, you may consider offering contractual warranties over a finite future period to provide indemnities to the purchaser if those risks materialise.

Sometimes reducing the purchase price works too, if the price reduction is more than compensated for by tax concessions that would not otherwise be available. 

Do Not Forget To Apply Available Tax Concessions That Allow You To Legally Reduce Your Tax Bill On The Sale Of Your Business

The most common concession is perhaps the 50 per cent CGT discount, which allows you to reduce the capital gain on the sale of a CGT asset by half, provided that the business asset has been held by an individual or a trust for at least 12 months before sale. 

In addition, the ‘small business CGT concessions is a suite of extremely potent CGT concessions that have the potential to substantially reduce or even eliminate your CGT liability altogether if your aggregated group net asset value is less than $6 million (excluding your main residence and superannuation benefits) or your aggregated group turnover is less than $2 million.

Special rules apply to how you calculate these amounts and which entities within your group are to be included. 

Proceed with caution if you are applying these concessions – these rules can be complex and prescriptive, so you need to ensure that you ‘tick every box’ to qualify for the concessions. Getting them wrong may lead to the Tax Office coming back to you later on to deny your claim. 

For completeness, under the ‘look-through approach’, if you structure the business sale so that you get paid by the purchaser in instalments that are dependent on the future performance of the business (commonly known as an ‘earn-out arrangement’), those future instalments may also qualify for any CGT discount or small business CGT concessions that may have been claimed when the business was sold. For instance, under the ‘supply of a going concern’ GST-free treatment, if you sell everything that is necessary for the purchaser to continue the operation of your enterprise (or part of an enterprise), it is likely that the business sale will not attract GST, despite the fact that you are the ‘supplier’ in the transaction. 

Again, the devil is in the detail, so you need to ensure that the way you structure the sale will enable you to access the exemption (for example, if you sell the business and business premises to separate entities that belong to the purchaser). 

As a precautionary measure, it is always advisable to incorporate a ‘GST recovery clause’ on the sale contract to enable you to recover any GST from the purchaser if the Tax Office subsequently decides for whatever reason that you were not eligible to apply the GST exemption.

The sale of a business may seem reasonably straightforward, but this is often not the case when you get down to the detail. Therefore, it is always advisable to involve your lawyer and accountant to guide you through the sale and ensure that they work together to achieve the best result.

In particular, all draft contracts and agreements should be reviewed by your accountant from a tax perspective to ensure that you legally minimise your tax liability and maximise the return on all your blood, sweat and tears in building the business up for sale.

Tax Considerations When Selling A Business

Whether or not tax is payable (and how much tax) on the sale of a business can make a huge difference to the amount of cash that business owners end up with. However, there are often choices that can be made to reduce or eliminate the final tax bill if the planning starts early enough.

Selling Business Or Company?

This is often the first question that comes up and can be a critical one. In general, individual owners should sell their shares in a company carrying on a business than for the company to sell its business and then distribute the proceeds because companies are not eligible for the 50 percent capital gains tax (CGT) discount.

Of course, not every buyer is prepared to acquire the company, and that is a matter for negotiation, but if sellers understand just how much tax is at stake, they might not give up the argument quite so easily, and it may be possible to find a way to do the deal on the basis of a share sale that satisfies both parties.

CGT Concessions

calculator financial chart financial

The small business CGT concessions are extremely valuable for businesses that meet the required conditions and allow the CGT on a business sale to be eliminated or substantially reduced.

The concessions are applied after the CGT discount and, while there can be tax savings when the concessions are used by a company selling its business assets, they usually provide greater benefits under a share sale, and its easier for the shareholders to access the funds.

The concessions can be used when a business has either “aggregated annual turnover” of less than $2m (the SBE test) or total net assets of less than $6m (the NAV test), subject to certain grouping rules involving related entities and individuals. For example, the NAV test includes assets of controlling individuals but specifically excludes the family home, superannuation balances and personal use assets (such as boats, cars and holiday homes).

Two additional criteria apply to share sales:

Firstly the shares must be sold by an individual with a direct or indirect interest of at least 20 percent in the company carrying on the business (a “significant individual”), or if the shares are sold by a company or trust, then certain other specific rules must be satisfied.

Secondly, the relevant company must satisfy the “active asset” test under which at least 80 percent of the company’s gross asset values have been represented by business assets for at least half the period of ownership (except if the business has been carried on for more than 15 years, the test need only be satisfied for 7.5 years in total).

For this test, non-business assets will include passive investments, loans to shareholders and (in some cases) large cash balances that are not needed for carrying on the business.

The retirement concession can also be used by those aged under 55, but the difference is that the amount of the concession (in this case $500,000) must be paid into a super fund, and many people are not prepared to do that as they need access to the entire sale proceeds.

An alternative is to reinvest the $500,000 into another active asset, including shares in a company carrying on a business, as long as they qualify as a significant individual with an interest of at least 20 percent, but again that does not suit every situation.

Other Tax Considerations

Another key point is to look at the level of retained profits and associated franking credits in the operating company. It is common for a share sale agreement to require any profits to be paid out as dividends to the existing shareholders prior to settlement, so it is worthwhile planning to make dividend payments over a number of years rather than being stuck paying large dividends just before the sale, most of which may attract the top marginal tax rate. Even after franking credits, there is a “top-up tax” of around 23 percent.

A related issue is the ownership structure of the operating company.

If one individual owns all of the company’s shares, they must receive all of the dividends.

If several entities own shares, then any dividends will be split amongst all the shareholders, and it is more likely that at least some of the payments will be taxed at lower marginal rates.

However, be wary of having separate classes of shares with special dividend rights, as this can make applying the small business CGT concessions on a sale much more difficult.

In our experience, the cleanest and most effective approach is where all the shares are owned by a family discretionary trust, or if more than one family is involved, then multiple family trusts.

This provides maximum flexibility, allowing dividends to be paid up to the family trust(s) and then distributed amongst various family members each year as appropriate, and makes satisfying the small business CGT concessions quite simple.

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