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Deferring Capital Gains Tax:

The Sale of a Closely Held Business

When business owners retire or sell, you often want to reduce the financial fluctuations that you have endured as you started and grew your business. For most, your retirement nest egg is made up primarily of the sale of your business. However, trading a business for a retirement income has until recently required either enduring a big and immediate tax hit or depending on a buyer to make payments over time. You may be worrying about these problems, right now. An Ensured Installment Sale or Structured Sale funded with a highly rated annuity can make it possible to stretch the tax hit over the retirement years while getting a steady stream of guaranteed monthly payments from a financially secure insurance company.

To fully grasp how this is done, you need to understand some basic concepts. When a business is sold for cash, the transaction is likely to cause some ordinary income (from depreciation recapture) and some long-term capital gains income. Long-term capital gains are taxed at a maximum rate of 15% of the amount that the sale price exceeds the adjusted tax basis. As the seller, you must recognize the entire gain in the year that the business is sold.

An installment sale (IRC §453) can be used to spread recognition of the gain over the installment period. In short, the seller agrees to finance all, or part of the sale price for the buyer. The buyer is required to pay the agreed upon price over a period of time, usually with an amount of interest attached to the unpaid balance. This option allows the seller to defer recognition of the gain (each installment payment would be made up of three parts: a non-taxable return of basis, capital gain, and interest). These payments can then provide the seller a retirement income.

However, the biggest disadvantage of installment sales is that the seller must depend on the buyer’s ability to pay over the specified time period. There is always a possibility that the buyer will experience financial difficulties or for some other reason become unable or unwilling to make the payments. The seller would have the option to foreclose and regain his/her business, but even if it hasn’t been run into the ground by then, there are delays, risks and costs involved. Foreclosing and saving a business are unlikely to be part of your retirement goals.

Pointing fingerA non-qualified structured annuity may provide an ideal solution to fund the installment sale. The buyer and seller agree on a price, on a stream of payments, and on timing of the payments. The obligation to make these payments is assigned by the buyer to an insurance company. The insurance company agrees to make these payments (structured annuity payments) in exchange for an insurance premium paid by the buyer. Now the seller can rest easy during retirement because his or her checks are coming from a reputable insurance company instead of a potentially less well-established individual.

Contact us to discuss and understand more fully how an Ensured Installment Sale might benefit you in the sale of your closely-held business.

 

Call Settlement Professionals Inc. at 1-800-666-5584

Settlement Professionals, Incorporated
PO Box 129
West Linn, Oregon 97068-0129

 

 

 


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