1. Tax Concerns When Selling a Business
2. Factors That Determine Goodwill
3. Goodwill vs. Going-Concern
4. Examples of Goodwill That Drive a Business's Core Value
5. How Goodwill Is Derived

The sale of business assets goodwill refers to an intangible aspect of the business. It is not easily defined, but it can be described as the value of a business or trade that will keep customers shopping or purchasing. This is due to the name or reputation of the business or some other factor.

Tax Concerns When Selling a Business

Selling your business can be a difficult and complicated process. There is typically a long list of business and personal issues that have to be considered. This can be extensive and sometimes confusing. Taxes you have to pay when the business sells are one of the primary things people worry about. If you properly structure things, this can minimize the taxes you owe. For reference, ordinary tax rates for a corporation are 35 percent and capital gains can range from 15 to 20 percent.

If you sell a traditional corporation or an S corporation that has profits and the proceeds of the sale will be distributed to the shareholders, the sale of assets will usually result in double taxation at both the corporate and personal tax levels. If you structure this sale more strategically, the sale of goodwill will only be taxed one time at the individual level and subject to the lower rate for capital gains.

During the sale of a corporation's assets, there will be income realized and taxes will be paid by the corporation. When those proceeds are distributed and the business closes its doors, the shareholders will be taxed on their capital gains. Capital gains are the share of sales proceeds over their corporate stock tax basis. If a business's goodwill is personal goodwill, it will only be taxed at an individual shareholder level. Whether or not it's considered a personal asset relates to whether the earning power of the business is related to its abilities or the personal relationships of the owner.

Factors That Determine Goodwill

IRS Rev. Rul. 59-60 states that a company's goodwill can be determined by a number of factors, including:

  • The prestige of the business
  • Earning capacity
  • Ownership of a respected and well-known business name
  • A reputation for successful operations over a long period of time

Traditionally, goodwill is considered a business asset. However, it has been declared a personal asset in several recent Tax Court decisions. This allows a sale of goodwill assets to be declared a capital gain and taxed only once and at a lower rate.

Goodwill vs. Going-Concern

Do not confuse goodwill with going-concern value. These are two different elements of a business. Experts typically define what is going-concern value based on the fact that a business will still operate in a way that aligns with its intended purpose rather than fail or be liquidated. In contrast, business goodwill is typically seen as good customer service, reputation, or products, all of which are important.

Examples of Goodwill That Drive a Business's Core Value

There are a number of elements that make up a business's goodwill:

  • Local economy
  • Reputation
  • Location
  • Phantom assets
  • Custom-built factory
  • Trade secrets
  • Tooling
  • Growing industry
  • Low employee turnover
  • Mailing list
  • Management
  • Contracts
  • Royalty agreements
  • Computer databases
  • Franchises
  • Licenses
  • Advertising materials
  • Copyrights

While many different factors can make up goodwill, it's important to remember that what it is and how it is represented on a business's financial statements are two different things.

Before you purchase a business or put one up for sale, it's best to speak with a professional first. While goodwill may represent the hard work of a business owner, that hard work needs to be accounted for in a different manner and with more detail than in prior years.

There are situations where assets sales are not ideal. If the business holds a license that is nontransferable, it will be of no benefit for you. An example is a liquor license or a government contract that took a number of years to finally secure.

How Goodwill Is Derived

The IRS has a classification of how to break down assets into different classes when you are selling a business. Once you have allocated all assets to Class I through Class VI, the leftover amount is considered goodwill. For example, if you are purchasing a business for $300,000 and all your assets total $200,000, then the purchase includes $100,000 in goodwill.

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