Vital Tax Considerations for a Successful CPA Merger

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Plan Ahead to Maximize Value, Tax Efficiency and Proceeds

Selling a business involves significant tax implications that are critical to both sellers and buyers. Key focus areas include transaction structure, state and local tax implications and more. For example, sellers need to analyze whether to sell ownership interests outright, structure the deal as an asset sale or stock sale and how to leverage goodwill to increase the purchase price or offset taxes on sale proceeds.

To make informed decisions, owners must evaluate the tax considerations that directly impact value and net proceeds. Mitigating risk ahead of time is key to maximizing tax efficiency – and it requires detailed due diligence and strategic transaction structuring. Advance planning can prove essential to a successful transaction.

Step One: Tax Due Diligence

Thorough tax due diligence before signing is the critical first step for both parties as it may reveal potential opportunities and unknown risks. Sellers gain confidence that they will achieve their desired post-sale involvement and financial outcome while avoiding pitfalls like double taxation, ordinary income recapture, among others. Buyers, on the other hand, secure a clear picture of what they’re acquiring, including both tangible and intangible assets, as well as any hidden tax and legal liabilities. Comprehensive due diligence protects both sides and prevents costly surprises that can derail deals or erode value.

The due diligence process can also dispel many misconceptions about tax treatment, reassuring sellers that most sale gains qualify for favorable long-term capital gains rates. Should depreciation recapture or unrealized receivables require a portion of the gains to be taxed as ordinary income, understanding this mixed treatment early allows sellers to develop strategies that minimize ordinary income exposure and maximize capital gains treatment.

Step Two: Tax Efficient Deal Structure

Preparing ahead can equip sellers to structure a deal designed to mitigate tax concerns as much as possible. It is well worth exploring issues that underpin the business’ valuation, its subsequent purchase price, post-sale tax liability and net profit. These include the following:  

• Entity Structure Selection:
  A seller’s entity structure significantly impacts transaction outcomes and tax liability. Each entity type has specific tax consequences: capital gains versus ordinary income treatment, single versus double taxation and step-up opportunities. Identifying the right structure is paramount to enabling optimal tax planning strategies.
  
  Some owners mistakenly believe they cannot find a willing buyer because they operate as an S corporation or C corporation. Fortunately, buyers who have broad experience, as we do, can help navigate any structure.
  
  Sellers can sell their ownership interest directly, transferring full ownership to the buyer. Or they can structure an asset sale, transferring the business’s tangible and intangible assets – including goodwill, reputation, client lists, branding and staff.

• Purchase Price Allocation:
  In an asset sale deal, the way in which assets and liabilities are allocated is directly linked to the timing and amount of the buyer’s tax deductions and the seller’s tax treatment. Buyers benefit from allocating value to depreciable or amortizable assets (like equipment and intangibles), which generate tax deductions. Sellers typically prefer allocation to capital gain assets for favorable tax rates. Negotiating allocation terms upfront and aligning accounting and tax treatments can accelerate closing and create a more favorable outcome for both parties.

• State and Local Tax (SALT) Issues and Planning Considerations:
  SALT issues are increasingly becoming a primary driver of deal delays and can even derail a deal. Both sellers and buyers need to be aware of SALT nexus and filing requirements.
  
  Federal tax regulations limit state and local deductions to just $10,000 per individual. To help sellers avoid this cap, some states allow partnerships and pass-through entities to pay tax at the entity level. Structuring a sale as an asset sale enables sellers to deduct certain state and local taxes (but not federal) from their taxable income. Pass-through entities such as partnerships and S corporations can take advantage of this opportunity to reduce taxes and increase net sale proceeds.

• Accounts Receivables:
  Sellers may accelerate expenses or deductions in the sale year to reduce taxable income. Cash-basis firms with substantial receivables face a challenge when buyers acquire receivables on which no tax has been paid. Rather than reduce the sale price by the amount of tax that will be due upon collection, sellers may choose to collect on these receivables ahead of time.

• Timing and Installment Sales:
  The tax burden of a sale can also be mitigated by timing the transaction’s closing. Deferring the closing to the following tax year delays the seller’s tax liability, while structuring the sale as an installment spreads tax payments over several years, benefiting both parties.

The Advantages of an Independent Perspective

Engaging independent external firms for advisory support can help sellers secure an objective valuation for the business. It also helps avoid conflicts of interest and address specific scenarios, such as when a seller wishes to give heirs an interest in the business, when there are partners to buy out before a sale, or when opting to leverage employee bonuses as a tax deduction strategy.

Contact Us

Integral to enhancing transaction success is our close collaboration with prospective sellers. Engaging business owners with our own partners and professionals promotes proactive communication and the sharing of institutional knowledge and subject matter expertise. The result is a positive, productive environment in which to launch a powerful future together. We invite you to reach out to us directly to begin exploring this exciting opportunity.

Benjamin Beskovic
Partner
bbeskovic@pkfod.com | 646.449.6379