Sell your business now or wait? What do the experts suggest?
If you’re like most business owners, your eyes may glaze over as the tax topic rears its ugly head but having a basic understanding upfront can save you time and money during your sale process. As the landscape changes and government reaches further into your pockets, it can be daunting, which is why we recommend you follow this article up with a conversation alongside your CPA or tax advisor. With this disclaimer in mind, let’s walk through the landscape of the capital gains tax and why it should, or perhaps should not be a motivating factor in your timeline for selling.
President Biden proposed to raise taxes1 on long-term capital gains for individuals earning $1 million or more to 39.6%. Added to the existing 3.8% investment surtax on higher-income investors, the tax could rise to 43.4%. This piece of legislation is still in the proposal phase, but if it were to be passed into law one of the potential caveats is that it would be retroactively applied to all asset sales from April 28, 2021, forward. A retroactive change may be hard to get through congress because capital gains rates have been consistently low for a while, but it is still possible an increase could take effect for all or part of 2021.
There are currently no capital gains tax laws in Washington State, however state lawmakers have proposed and passed a 7% capital gains tax effective January 1, 20222 but it has run into several legal challenges that are ultimately expected to be decided on by the State Supreme Court.
The question of when to sell is a tough question for business owners. Adding in the variable of capital gains tax law changes (at both the state and Federal level) can create anxiety over whether to hurry up and exit or ride out the chatter and see what laws get changed. Business owners seeking to sell their company have a long list of things to consider, only one of which is how the Capital Gains Tax will affect their exit strategy plans, so let’s walk through a few perspectives from the experts.
What should matter to business owners?
Karl Weiss, Tax Attorney at Lasher Holzapfel Sperry & Ebberson PLLC offers these thoughts: “So is the melee (confusion, jumble, and turmoil) that is capital gains tax and its potential impact on the sales of closely-held or family businesses. The 7% Washington capital gains tax (set to be effective January 1, 2022) is currently under constitutional challenge and the Biden administration has yet to formulate a definitive plan as to any modifications to the current federal capital gains tax regime. Without such clarity, it is difficult to provide meaningful guidance as to what would be the best course of action. That being said, however, the focus should be on whether the business is ready to market and sell, would it behoove you to wait for improvement in the overall economy or the business operations itself, are there viable buyers that have the funds to close this year, what would be the actual structure of the proposed transaction, and finally whether (in light of the foregoing) it would be best to sell now with a “known” tax outcome.”
A guiding principle at Transition360 is preparation. Having more than a transactional conversation with your CPA is paramount as the influence of tax considerations push you to contemplate selling. Tax laws are an ever-changing beast and effect your financial plan so be sure to have a competent accountant in your corner to ensure that you’re getting good advice. Sabin N. Pradhan, CPA at Hagen, Kurth, Perman & Co., P.S., wisely advises, “I would caution business owners from making strategic decisions based solely on potential tax law changes that may or may not happen. While the Biden administration has proposed increases to the corporate income tax rates, long term capital gains tax rates and an increase to the highest individual income tax rate – there is no certainty to which of these proposals will become law. You don’t want to be making a strategic move now based on a potential tax law change only to regret it later.”
Having clearly defined sale objectives and timings outlined up front as part of exit planning can remove unwelcome surprises during the sale process. Valuation curves can vary from year to year depending on your net income, various buyer pool activity, bank appetites, industry trends and product life cycles. Influences outside of capital gains tax could play an even more important role in your decision to sell. This said, preparation and timing should be a conversation with your professional service providers as you consider the pros and cons of a quick sale.
Greg LeClair, Senior Portfolio Management Director at Morgan Stanley shares that, “a 5% to 10% increase in tax rates, if that were to happen, clearly can have a material impact on bottom line outcomes in your financial planning but tax implications, whether in designing a business sale or any other major investment decision for that matter, should never be in the driver’s seat of the decision-making process.”
If you’d like to talk through the process of preparing for an exit sometime in the next five years, Transition360 has over 30 years of experience selling companies, with a 93% closing ratio for the companies we work with, and while we do not replace the work your CPA or tax advisor does for your business, we work with your professional team for the successful sale of your business and help you take the best step forward into your future. Feel free to reach out for a free consultation.