Successfully sell your business

Have you thought of using a transition plan when selling your business?  The process to sell a business is not quick and easy.  At the moment it is taking about 8 months to sell a business, if it sells.  This means the business is available for about 6 months.  The buyer and seller then complete negotiations on the purchase price including the terms of the deal.  The next main step is to start the due diligence and if both buyer and seller are still in agreement, escrow opens and then hopefully about 3 to 4 weeks later, escrow closes and the business moves from the seller to the buyer.

Even if the business closes escrow, almost without exception the buyer wants the seller to continue in an active role in the business in some capacity for a period of time.  The buyer wants time to meet and get to know the employees, set up arrangements with suppliers, put basic items in place like bank accounts, and a myriad of other items.  At the end of the day, however, it all needs to make sense for both the seller and the buyer and the best way to do that is to build a transition plan.

What is a transition plan?  A transition plan is generally a window of time of say 4 to 8 weeks that makes sure all the important and often taken for granted details of owning and operating the business successfully move from the seller to the buyer as quickly and smoothly as possible.

What should you include in the transition plan?  On my website I have a free document called a 127 point Business Transition Checklist.  It is meant to be comprehensive but not exhaustive as unique items apply to each type of business.  If you would like a copy of this document please click on the following link: http://www.rogersonbusinessservices.com/sell-or-buy-a-business-free-documents

A transition plan can overlap with an Exit Plan.  An exit plan is essentially a process for the business seller to exit the ownership of their business to manage the protection and eventual transfer of assets or stock in a proactive, tax efficient manner.  Essentially a business owner can have 5 types of assets.  These are Personal Property, Real Estate, Business Interests, Insurance Plans and Employee Benefits.

Personal property includes savings, stocks, bonds and personal effects.  Real estate includes both residential and commercial property.  Business interests include the business legal entity such as a corporation, partnership or LLC.  Insurance plans include life, health and annuities.  Employee benefits include pension, 401(k), IRA and stock options.

A quality Transition Plan is all about success.  Its ultimate goal is to ensure that the business and the owner move from actively owning the business to handing it off to its new owner.  The best analogy I like when a business transitions from the seller to the buyer is that it’s like juggling two snowflakes.  Every snowflake is unique because of temperature, the absence or inclusion of a piece of dirt, the number of water molecules, spins of electrons, hydrogen and oxygen etc.  So too is a business and its owner.  To preserve and maintain the business and protect its uniqueness it must be treated carefully and properly.  The same applies to the owner.  The owner can live without the business and the business can live without the owner as long as proper care and attention are given to each so when the next owner comes along with their uniqueness, like another snowflake, it has to make sure it can mesh with the business and both be successful.

Related articles

• Will 2012 Be the Year to Sell Your Small Business? (smallbiztrends.com)
• Sell a business with an exit plan (RogersonBusinessServices.com)

Buying or selling a business is a complex matter.  There is no question about it.  The complexities start from the moment a buyer and seller start interacting.  These include, for example, the buyer not having any history or knowledge about the operation of the business and so have to rely entirely on the representations of the seller.  Conversely, the seller lives and breathes the business, knows its ups and downs as well as its strengths and weaknesses.  My Golden Rule when assisting with a business transaction is for each party to put their feet in the shoes of the other party.  In other words, the seller should see things from the buyer’s perspective and the buyer should see things from the seller’s perspective.

A key way this would help the business owner run the business would be if they use a Management plan.  What you may ask is a Management plan?

From my perspective, a Management plan is where all the critical areas of a business are summarized so if the owner of the business wins the lottery and never wants to work another day in their life in the business and not come to work tomorrow, the business will survive and grow.  This plan then becomes a critical document when the owner wants to sell as they can provide it to the buyer of the business.

What are some things to include in the Management plan?  At a minimum the Management plan needs to include a summary of key business information.  This includes the following:

1. A current and monthly updated summary of all the employees in the business.  The rule should be that if any employee needs to be contacted, their information should be available in less than one minute.  This information needs to include emergency contacts of each employee, if they are willing to provide it and your State government agency allows you to collect it.
2. A current and monthly updated summary of all suppliers.  All suppliers may be too much but at least the suppliers that supply any critical materials or provide more than 5% of the company materials.
3. A current and monthly updated summary of all business support services such as the CPA, attorney(s), financial planner(s), landlord, lenders, government agencies in case any are needed urgently.
4. A critical document that would help any buyer is seeing the business Training Manual.  Again this document should be kept up to date and break down each of the current positions of the business.  If the business doesn’t currently have this document, start creating it.  It’s very easy to do.  Have the current person encumbered with that job write down what they do.  This is then presented to another member of the business with the instruction to execute what’s provided.  If they can do it then the job is done.  If they can’t, it goes back to the person who wrote it for re-writing.  If some employees don’t want to write the document as they are concerned they will be let go because anyone now knows how to do their job, hire a student from a local college to come and write things up or hire a technical writer.
5. In addition to the Training manual, put together an Operations manual.  Michael Gerber is the master of written procedures.  He’s written numerous books including The E Myth and The E Myth Revisited.  Very simply, Michael Gerber believes that being a true entrepreneur is being able to take an idea and break it down and put it in writing to the point where each person in the business clearly knows what they need to do to collectively make the business successful.

This is the purpose of the Operations manual; to clearly state the business process to achieve an outcome.  Would you like an example?  Let’s go with the example of a fast food restaurant that sells hamburgers.  Let’s choose the person that makes the fries.  The Operations manual would break down each step of that process.  It starts with where to get the fries, what to do when the quantity of fries in the storage area gets to a critical point and what to do to order more; what temperature they should be stored.  The next steps would detail what temperature the oil needs to be to cook the fries, for how long and in what container.  Now detail what to do with the fries when they are ready, how much salt to add and in what container to place the cooked fries.  Now the next step is to record where the containers are stored and what to do when you reach a minimum threshold?  You can do this in more detail but the beauty is that once this is done, it only needs to be checked say monthly and now on a consistent basis you can cook and deliver the best fries in the world.

It may seem like a lot of work putting these things together.  These suggestions are the tip of the iceberg.  What else can you document to make your business easier to operate?  Using technology can make doing this so much easier.  And remember to make sure you have a backup so all your hard work is not lost.

The most important reason to do this is that by creating this Management plan, your business will be of more interest to the right business buyer.  In real estate, there is a rule called the principle of comparison.  In simple terms it says that when a buyer is looking to buy a house, they will buy the best option not only on price, but also comparing it to other houses for sale in that area.  If the buyer wants a 3 bedroom, 2 car garage, 2 bath house in a specific school district and they have 3 to choose from, they will not necessarily make their final decision on price.  For example, a specific feature such as whether it has a swimming pool.  The bottom line is that a strong and clearly laid out Management plan adds value to a business for sale and could be the difference between a buyer choosing your business they compare to another.

If you are thinking about selling your business and would like to know its value, please give me a call on 916 570-2674 or email me at Andrew@RogersonBusinessServices.com and I can put together a Brokers Opinion of Value for you.  If you would like to see a sample document, click the following link:  http://www.rogersonbusinessservices.com/services/selling-a-business

Not everyone will agree but I am sure it’s closer to the truth than one might think: buying or selling a business is unlike anything else of value. To support my argument there are a number of reasons. Let’s look at some of them.

The price of a business is determined by a valuation. The rules of a valuation come from the law and then legal cases as well as the Internal Revenue Code and custom. The price for most other items of value are determined by market comparables (for example, when valuing a house), looking up a book or some online site such as Kelly Blue Book (for cars) or results from eBay or some other online service (for any item you can think of). That is, there is no legal interference with the value of any these items except a business.

When advertising to find a buyer of these items, with the exception of a business there are no rules. To be clearer, when selling any other item the owner wants the world to know it’s for sale. Regular and established advertising channels are used including online web sites, newspaper or magazine advertising, family, friends and anything else to find a buyer. Conversely, with a business, advertising is done using less familiar methods and in most cases, the advertising is obscure so family, friends, customers, employees, suppliers, landlords, lenders and others are not aware the business is for sale.

When a buyer and a seller enter into negotiations for anything except the business, it’s generally very simplistic and does not need the involvement of third parties. In contrast, negotiating a business often involves complex negotiations with sophisticated parties. These parties can include lenders, landlords, attorneys, accountants, business intermediaries or business brokers as well as hidden support for buyers and sellers such as family and friends.

When selling a business, to get the maximum price possible, normally involves a lot of work for an extended period of time. The steps the seller takes includes trying to increase revenue, recasting the financial statements to arrive at an accurate and supportable discretionary earnings of the business and repairs and upgrades to make sure the business looks the best. Items being sold other than a business can similarly be polished but there is a limit on what can be done and the amount of time to do it.

When the buyer and seller reach an agreeable point in the negotiations of a business transaction, all items must be converted to paper. One of the first items it defines is whether the business is being sold as an asset or stock sale with this single decision has many tax and legal implications. Additionally, this one decision in itself, can set off a series of negotiations or at least, in-depth discussion and analysis by both parties.

In some business transactions, the negotiations can trigger a set of different valuations to support each parties position and whether or not the transaction ultimately closes. For example, if the purchase includes real estate or a large number of physical assets or intangibles such as trademarks or copyrights or the business itself then there could be four valuations. The first is a valuation of the commercial property, the second is a machinery and equipment appraisal, the third is an intellectual property appraisal and the fourth a business valuation.

Buying and selling a business is unquestionably complex. The complexity can include the business and its different assets but added to this is the complexity of the emotions each party brings to the transaction plus the fact that it can sometimes take many months to finalize the matter adding an additional layer of complexity due to life situations happening such as health, legal, family, finance and many other items affecting the process. For a willing buyer and willing seller to eventually close the transaction, it will require patience and clear communication and normally, the help of a good business broker.

Whether we are a business or an individual we need to understand ‘our tax position.’ Perhaps you are a business owner who is thinking about selling your business?  You have been doing this for many years and you have made the decision to sell and move to something new.  You are probably burned out, have a concern about your health and decided to move to a bigger and better idea.  Congratulations!

So step one is the decision to sell.

What should step two be?

Step two is to make sure you have something to go to that’s better than what you’re currently doing.  If you’re burnt out and are thinking of selling but you go to all the trouble to find a buyer of the business, get their offer and all of a sudden realize you’d sooner continue what you’re doing rather than sit on a beach or play golf 4 days a week or whatever.  So step two is to make sure you are excited about what you’re going to move to.

If selling seems the best option, step three is to get a business valuation from an independent third party.  I can’t tell you how many business owners call me and explain why they think their business is worth a certain amount of money.  After asking a series of questions I have the problem of bursting their bubble.  So if you are serious about selling, get a third party valuation.  The valuation can be an opinion of value from a business broker, accountant or other professional.  It doesn’t require an in depth appraisal where the matter may go to a court such as for a divorce or partnership dispute.

The fourth step is to talk to your tax agent or hire a professional that can let you know how much you will get to keep once the buyer pays your negotiated purchase price.  Just because the buyer offers you $1,000,000 for your business it doesn’t mean that’s what you get to keep.  There is an issue called taxes that needs to be dealt with and it can get complicated.

There are many ways it can get complicated.  Complication one starts with the legal entity of the business.  Tax write offs and tax minimization are different for a Sole Proprietor or an LLC or an S Corp and especially a C Corp.

Complication two comes into play as the buyer wants to maximize the tax benefits from his perspective which often have a negative consequence to the seller.  This complication has to be resolved for the transaction to close through the Purchase Price Allocation process.

The Purchase Price Allocation comes into play when the total purchase price is broken down into items such as inventory, goodwill, fixtures, furniture and equipment, covenant not to compete, training and other categories available that vary according to the business being sold.

For the benefit of both the buyer and the seller, it is important to recognize that the deal can fall over if agreement is not reached on the Purchase Price Allocation as there are tax consequences to each party.  Furthermore, this piece of negotiation can arise after the first set of negotiations for the purchase price and terms of the deal.  If the purchase price and terms have been protracted and tough negotiations, working through the Purchase Price Allocation can open a new source of tension.  The key point here is that there must be willingness for each party to give on the Purchase Price Allocation.  If one party refuses to budge then the transaction will most likely die.

+Andrew Rogerson

When talking about good strategies to limit the amount of tax the owners or the business has to pay, there are three issues to consider.

The first issue, which tends to be the most obvious but also the most difficult, is to encourage business owners to take advantage of solid tax planning.  The demands of owning and operating a business especially during a difficult economy does not seem to provide a good Return On Investment for the time or money it may cost to find out the best direction to go.  By avoiding good tax planning can in turn mean the business pays more than its fair share of tax at both the business and personal level and that does not make a lot of sense.

Any good tax planning strategy and therefore the second issue to consider looks at the legal structure of the business.  With the wrong legal structure, the business owners or shareholders may fail to structure the business to reduce taxes but also protect both the business and personal assets.

The final issue, which generally gets little attention, is taking advantage of the tax code.  The goal of doing this is to minimize the tax exposure of the owner and to do this by understanding the implications through Estate Plans and any potential disasters this may cause the heirs following an event which incapacitates or involves a loss of life.

If these three issues make sense, one of the services we offer is a complete assessment of the business or a Business Assessment.

A part of the Business Assessment is to look at the impacts of tax both on the business and for the individual shareholders.  In this look, we use two perspectives; one for the everyday operation of the business and shareholder compensation, and secondly, the transactional tax implications at the time of sale or close of escrow.

Within the Business Assessment, we present a tax savings and exposure illustration to each individual shareholder demonstrating the amount of money, within a range; each party is overexposed or could save.  The range given is due to a variety of planning initiatives each party will have the choice to implement, choose all the initiatives and the savings will be at the top end of the range, choose some of the initiatives and the savings will be less.

The savings are broken down into three specific categories.  First, the one-time catastrophic savings put in place with asset protection and estate planning.  Secondly, a first year savings that focuses on taking advantage of opportunities in the tax code to provide shareholders with additional compensation, fringe benefits, and retirement funding.  Finally, a first five years savings which holds the complexities of all strategies possible compounded for a five year period.

If selling the business is an event that may happen within the next three years, the Business Assessment will break down the tax imperatives of a sale and allow a discussion to understand how to minimize the taxes to pay; specific to the current legal structure of the business.

It’s worth noting; even the transfer of ownership from a parent to a child has immense tax implications let alone the actual sale of the business.  The role of the Business Assessment is to demonstrate the exposure and savings range possible with the appropriate structuring of the transaction to sell or transfer the ownership of the business.

If you would like more information about a Business Assessment including a sample report, please give me a call on 916 570-2674 or send me an email; Andrew@rogersonbusinessservices.com

+Andrew Rogerson

The obvious question to ask when you plan to sell your business is “How much of the final purchase will I get to keep?”  That seems a very fair and reasonable question.

Unfortunately, it is not a quick and simple answer.  The buyer of your business will make a final decision to buy the business based on the maximum operational cash flow they can get from the deal.  The seller has a different agenda which is to maximize the amount of the purchase they get to keep after paying all taxes.

To help the seller understand the amount of tax they may have to pay and therefore understand how much they get to keep after they pay their taxes, there is value in answering a series of questions which allows the answers to reveal themselves.

Here is a series of questions to use so the seller of a business can understand what will impact the final amount they get to keep after they pay all taxes.  The questions are not exhaustive but will allow a business owner to have a discussion with their professional tax advisor.

1. How long, in months or years, do you plan to sell the business?
2. What value or price do you expect to get from the buyer of the business?
3. How much is the annual accumulated depreciation of the business?
4. What percentage of the business do you own?
5. If the business has sold, when did the transaction close?
6. Is the purchase price all cash, or if the seller is carrying a note, how much is it?
7. How much is the buyer down payment and is this being paid by cash?
8. What is the current market value of the different assets of the business?
9. What is the type of legal entity of the business? (C-Corp, S-Corp, LLC, Partnership, etc)
10. If the business was incorporated, what was the date?
1. If the business is incorporated, what type of corporation did it start initially? (C-Corp, S-Corp, LLC, Partnership, etc)
2. If the business changed its entity, to what type did it change?  (C-Corp to S-Corp or S Corp to C Corp.)
3. If the business changed its entity when was the effective date of the change?
11. Is the business selling as a Stock or Asset sale?
12. What is the total equity (basis) in the business?
13. If asset sale, projected sale price for assets?
14. What percentage from the proceeds of the sale of the business will be divided into the following categories:
    1. Cash                                        %
    2. Tax Free                                %
    3. Taxable                                  %
    4. Tax Deferred                        %
    5. Total                             100%
    6. How much as a lump sum in cash does the owner require when the business closes escrow?

As you can see, there are lots of questions.  Your tax professional should be able to assist and explain why each question is asked.  Alternatively, please give me a call on 916 570-2674 or email me at Andrew@RogersonBusinessServices.com and I can explain how I can assist with a tax and structuring analysis report that is specific to your business and your situation.

How do I minimize the tax I pay when I sell my business? You have made the decision to sell your business.  You have decided what you will move to once the business is sold.  You have a valuation so you know what your business is worth.  You’ve looked at the business with fresh eyes and have it looking good so when a buyer comes along they will like what they see.  As they say in the Classics, you are all dressed up and ready to go or as I like to call it, you are seller strong.  That is, you know where you are going and how you want to get there.

However, there is a final piece you need to know so you can maximize the value from selling your business and this is to understand how much tax you will have to pay.  This may seem like a waste of time and money but in fact it is the opposite; and here’s why.

If you find a qualified and motivated buyer you will move into reactive mode.  That is, the buyer wants to maximize the final purchase price they will negotiate so the business generates the maximum cash flow.

Conversely, your goal as the seller is to also maximize the amount of cash flow the business will generate to you personally and you will do this by minimizing the amount of tax you have to pay.

One of the documents both the buyer and seller will each have to complete prior to closing escrow is the Purchase Price Allocation or IRS Form 8594.  This document reports to the IRS the value of the total purchase price broken down into different classes of assets.  These different classes of assets attract different rates of tax and so ultimately affect the amount of tax the seller pays and therefore gets to keep.

To help the seller minimize the amount of tax they pay, one of the services we provide is a Tax and Structuring Analysis and Report.  The title is a little long winded but it includes the following:

1. Three different pricing and/or structuring scenarios and how they affect the seller.
2. A clear explanation of each scenario so the seller understands the outcome of each option.
3. A summary of how much tax would be paid by the business and at a personal level.
4. A summary of the taxes on both the tangible and intangible assets.
5. How the asset allocation should be done when completing IRS Form 8594.
6. An explanation of how much the seller gets to keep from the sale after all business and personal taxes are paid.

So what’s the value and benefits of getting a Tax and Structuring Analysis and Report?

In simple terms, the buyer, almost without exception makes the first offer and their focus is on the total purchase price with the conditions that are important to them.  Obviously the buyer does not know how much tax you will pay if you accept their offer so if the buyer’s offer is close to what you are willing to accept, your final counter is to say you will accept the offer as long as the buyer accepts your purchase price allocation.

If you would like some more information, please email me at Andrew@RogersonBusinessServices.com and I can explain how I can assist with a Tax and Structuring Analysis Report that is specific to your business and your situation.  If you would like to see a sample, click on the following link – Sample Tax and Structuring Report

If you are thinking of selling your small business, one of your first questions to answer is more than likely; where do I start?

One of your first starting points is to be clear exactly what you are selling.  This may seem obvious but many sellers think they will deal with it when they get an offer.  So let’s break this down and look a little more closely at it.

In simple terms, the two most important things to a buyer when looking to buy a business are current cash flow and potential.  From the buyer’s perspective, the cash flow is the fuel that feeds the business to pay the suppliers, employees, landlord, tax man, lenders and to keep the business going.  In addition, they need cash flow to feed their family, pay the mortgage, pay any loans and have something left over after all their work and capital investment in the business with a little in reserve in case something unexpected happens.

For the buyer to achieve the above, they need to purchase all the assets of the business, and, just as importantly, understand what each asset does and how it contributes to the cash flow and/or potential of the business.  As the seller of the business, it’s therefore important that you make it clear what those assets are and present them in the best possible light.  If this seems obvious, then I can tell you that it’s not.  It’s amazing to me how many business owners don’t truly understand what makes their business run and the need to keep it lean and mean so it operates at its full potential.  (Isn’t it funny how that word “potential” keeps popping up?)

So if you are thinking of selling your business, your immediate response to this question may have been “I am selling the business as a going concern on an ‘as is’ basis.”  This is perfectly fair.  But you need to do a little better than that.  And I’ll explain why later.

So we agree the business is up for sale.  When you have your first buyer meeting, the buyer will be absorbed in processing what they can see and assume they will buy with their purchase of your business.  The first thing to do is therefore remove any items that are not part of the purchase price.  If you have collectables such as paintings, antique cars or items that are personal to you and not needed to make the cash flow of the business, remove these now.

If the business has inventory, make sure the inventory is fresh and as useable as possible.  If a buyer sees a lot of old inventory with doubtful value, it will become a specific negotiating point in the transaction and may kill the deal.  If time is on your side, start selling the inventory to your customers even if it needs to be at a reduced price.  You are likely to get more from your customers than being forced to sell it as a discount as part of the purchase price to the buyer.

The next thing to do is make a list of all the Fixtures, Furniture and Equipment.  Hopefully this list is already in place as your accountant would be using this list as the depreciation schedule for your tax return.  If the list doesn’t exist, now’s the time to build it as when you are in escrow and are ready to sell the business, it is going to be necessary.  If the list is old, now is a good time to update it by making sure you still have everything and it is in good working order and condition.  If you can no longer find it, remove it from your list and talk to your accountant about writing it off for tax purposes.  If it’s still on the list but it no longer works, sell it or get rid of it to make the presentation of the business better and allow the items that are working and in good order stand out to the buyer.

If your business has Works In Progress, make sure you can easily arrive at a value for those items.  It will become a mandatory negotiating point in the transaction.

If you plan to sell your business, ask a family member, friend or neighbor you trust to look at your business and give their perspective.  When you are so close to owning and running your business it is not easy to see the wrinkles and warts that every business has.  My Golden Rule when either buying or selling a business is “See things from the other party’s perspective.”  This approach will keep you grounded and increase your chances of successfully selling.

If you have questions about selling your business send me an email to Andrew@RogersonBusinessServices.com

Not everyone will agree but I am sure it’s close to the truth that buying or selling a business is unlike anything else.  Here are four reasons.

First, the price to list a business for sale generally comes from a valuation.  The rules of a valuation come from the law and legal cases as well as the Internal Revenue Code and custom.  The price for most other items of value come from market comparables (for example, when valuing a house), looking up a book or some online site such as Kelly Blue Book (for cars) or results from eBay or some other online service (for any item.)  That is, there is no legal interference with the value of any of these items except a business.

Second, when advertising to find a buyer of these items, with the exception of a business there are no rules.  To be clearer, when selling any other item the owner wants the world to know it’s for sale.  The seller or their broker uses regular and established advertising channels including online web sites, newspaper or magazine advertising, family, friends and anything else to find a buyer.  Conversely, when selling a business, advertising is done using less familiar methods and in most cases, the advertising is obscure so family, friends, customers, employees, suppliers, landlords, lenders and others are not aware the business is for sale.

Third, when a buyer and a seller enter into negotiations for anything except the business, it’s generally very simplistic and does not need the involvement of third parties.  In contrast, negotiating a business often involves complex negotiations with sophisticated parties.  These parties can include lenders, landlords, attorneys, accountants, business intermediaries or business brokers as well as hidden support for buyers and sellers such as family and friends.

Fourth, when selling a business, to get the maximum price possible, normally involves a lot of work for an extended period of time.  The steps the seller takes includes trying to increase revenue, recasting the financial statements to arrive at an accurate and supportable discretionary earnings of the business and repairs and upgrades to make sure the business looks the best.  When selling most items, it’s easy to improve their appearance but with a business there is a limit on what the seller can do and the amount of time to do it.

When the buyer and seller reach a consensus on the main points of the negotiations, all agreements must be in writing.   One of the first items it defines is whether the business sale is an asset or stock sale with this single decision has many tax and legal implications.  Additionally, this one decision in itself, can set off a series of negotiations or at least, in-depth discussion and analysis by both parties.

In some business transactions, the negotiations can trigger a set of different valuations to support each parties position and whether or not the transaction ultimately closes.  For example, if the purchase includes real estate or a large number of physical assets or intangibles such as trademarks or copyrights or the business itself then there could be four valuations.  The first is a valuation of the commercial property, the second is a machinery and equipment appraisal, the third is an intellectual property appraisal and the fourth a business valuation.

Buying and selling a business is unquestionably complex.  The complexity can include the many and diversity of different assets.  Add to this the complexity of the emotions each party brings to the transaction plus the fact that it can sometimes take many months to finalize the deal.  In addition, other layers of complexity include ‘life’ events such as health, legal, family, finance and many other items that affect the final outcome.  For a willing buyer and willing seller to eventually close the transaction, it will require patience and clear communication and normally, the help of a good business broker and other team members.

If you have questions or would like more information, please feel free to call me on 916 570-2674 or email Andrew@RogersonBusinessServices.com

Over the years, the sale of many businesses includes a component of seller finance.  Since August 2008, a component of seller finance for privately held companies has become much more the norm as banks and third party lenders have been reluctant to lend.  It’s become important not only because the banks have reduced their amount of lending but also because the banks are now reluctant to loan as much of the purchase price.  For example, in previous years, if the buyer brought a down payment of 20 per cent the bank was willing to lend the remaining 80 per cent.

So the good old days are now behind us with the banks now preferring the buyer to bring a down payment of 20 per cent, the seller to carry a note of 20 per cent and the banks will then fund 60 per cent as long as the seller moves into second position.

This change of dynamics is making it difficult for sellers to decide if they really want to sell.  Many sellers are reluctant to carry a note because they are worried the buyer will not make that payment or the conditions of the bank or SBA loan may mean the seller only starts to receive loan payments 3 or 4 years after the transaction closes escrow.

There are downsides to seller finance but there are many upsides.  Let’s have a look at a few of them.

One of the main benefits to the seller agreeing to carry seller finance is that it delays the payment of taxes.  Selling a business at the close of escrow triggers a taxable event.  However, the tax is only due and payable when the seller receives the money.  For example, if the seller carries a note on $100,000 of the purchase price and the note is repayable at $20,000 per year for five years then the tax due is not payable until the seller receives the money each year.  And the basis of the rate of tax is on the applicable tax rate in that year; not the rate the seller pays when the business closes escrow.

A further benefit to the seller from seller finance is that the note provides a steady stream of income in the form of an annuity.  For many sellers this is attractive as they may be moving to their next venture and are yet to create a new steady stream of income.

Another benefit of seller finance is that it encourages the buyer that the seller believes in the business and with all the seller disclosures, the buyer has the ability to run the business effectively.  This morale boost can be important to buyers as they work through their decision making process.

In addition to the above, seller finance will generally pay interest on the seller note at a much higher rate that the seller can get by investing the money in a CD or some other form of interest bearing account.

When you bring all the above ideas together there is a compelling reason for the seller to fully understand Seller finance and how it would benefit the sale of a business.  In some cases, a seller may choose to get a sizable down payment from a qualified buyer and then carry a note for the rest of the purchase price.  Of course, if a seller was comfortable with this situation it would enable the deal to close escrow much quicker as the buyer does not need to apply to a third party lender for finance which can often be a 6 to 12 week process; if the loan request is approved.  At the moment, knowing a third party lender will approve a loan request is one of the biggest drawbacks affecting the closing of many business transactions.

As always, if you have questions about seller finance or more general questions about buying a business, please send an email to Andrew@RogersonBusinessServices.com