I am in the process of purchasing a company, however "ONE SMALL" problem that I am running into is a tax issue, which can be pretty significant for the buyer.
The valuation of the company that we all agree on (seller/buyer) is $4.8m (4x a TTM of $1.2m in EBITDA). This transaction calls for the seller to assume all debt, approx. $1.1m and TAXES.
The sellers want the transaction structured as a stock sale, with them essentially paying cap gains and state income for a total of 26% on the gain. As they have no basis in the stock, the transaction would yield the sellers prior to repayment of company liabilities, net proceeds of approx. $3.5m ($5m less expenses of $300k, less capital gains/state income taxes of $1.2m).
The buyer wants to structure the transaction as an asset sale. The rationale for this is I don't want to deal with any liabilities that may come out of the woodwork in years to come as well as structuring the transaction in the most efficient manner for the buyer - eg. write up assets (Machinery & Equipment) , thus taking advantage of the aggressive/accelerated tax write-off, etc.
The problem that I am running into is that the company converted to a S-Corp approx. 5yrs ago (Oct 2006) and per the tax code, any company that sells assets inside a 10yr window of converting to an S-Corp will be subjected to Build In Gains ("BIG") Tax - In the case of the sellers, this would be approx $1m in BIG taxes. In addition the company will have to pay taxes including some depreciation differences between book vs. tax. Finally, the shareholders will also be subject to taxes on final distributions after the liquidation of the company. All in all, the tax bill under such a structure will leave the shareholders with net proceeds of approx. $2.2m (vs. $3.5m under a stock sale and before repayment of company liabilities).
One last item in connection with the BIG tax is that there is some relieve under the tax code, which avoids the BIG tax come the 5 year anniversary of the c to s conversion. In the case of the seller, that anniversary date falls on October 1st, 2011. The problem is that I don't want to wait until October 1st as some other suitors may close in on the deal sooner than Oct 1st.
Does anyone have any creative ideas on how to structure the transaction as an "asset purchase" and still give the sellers the same net proceeds result as they would get under an stock sale?. I remember many years ago looking at a transaction which saw the sellers prior to the sale, drop the assets into an LLC, allowing the buyers to purchase assets out of the LLC and in some way had the sellers avoid all of these Draconian taxes.
Thank you in advance for your input