While there are many variations and hybrids of each, there are two primary ways to structure a business sale: a bulk asset sale or a stock sale. Not all types of business are eligible for a stock sale. A sole proprietorship (‘dba”) and partnership do not issue stock and must use an asset purchase structure. A merger of two existing businesses into one larger business is essentially a type of stock sale. From a tax and liability perspective, sellers generally prefer a stock sale, while buyers typically prefer an asset sale. Asset sales can leave sellers vulnerable to future lawsuits, such as employee discrimination or intellectual property claims. With a stock sale, the buyer may be vulnerable to future lawsuits and other legal claims.
A bulk asset sale is where some or all of the business assets are sold to a buyer who starts its own new business with them. The buyer purchases all (or most) of the corporation’s assets and liabilities, renegotiates contracts and applies for new licenses, titles and permits. The new owner can also decide which employees to retain and which to terminate, taking advantage of the fact that terminating employees does not affect their unemployment rate. Purchasing a company’s assets offers tax advantages for the buyer. If the business has equipment that has been fully depreciated, the new purchase allows the buyer to “step up” the value of the equipment depreciation again. When an asset sale takes place, the buyer can spread the cost of the good will over 15 years, which reduces their income tax liability.
A stock sale is where the equity in the business is sold to a buyer rather than selling the business’ individual assets, keeping the business in tact as a going concern. The buyer obtains all company equity including all assets and liabilities. The buyer in effect steps into the shoes of the seller, and the operation of the business continues in an uninterrupted manner. After closing, the seller has no continuing interest in, or obligation with respect to, the assets, liabilities or operations of the business. In a stock sale, the buyer is at risk from future litigation from liabilities that are not paid and cleared.
Where buyer and seller are S corporations, there is a hybrid tax treatment for stock sales. By electing IRC Section 338 and jointly filing Form 8023 followed by a Form 8883, the parties may be eligible to treat a stock sale like an asset sale for federal tax purposes. Form 8883 allocates the purchase price among seven categories of assets, including cash, inventory and goodwill. The election won’t save sellers any tax, but buyers will reap the tax benefits of an asset sale.
Asset and stock sales aren’t something business owners handle on a daily basis. When you decide to buy or sell, it’s critical to work with an experienced attorney to structure the deal in the most advantageous way possible from both legal and financial perspectives.