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RD
RD, Certified Public Accountant (CPA)
Category: Tax
Satisfied Customers: 8784
Experience:  CPA, MBA, Over 10 yrs of experience in tax planning and business consulting..
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I need advice on a business purchase price allocation. The

Customer Question

I need advice on a business purchase price allocation. The business is an S-Corporation and the sale price is $65k. Below are the actual assets of the business:

Inventory $22k
Fixtures/Equipment before 2007 and 2008 Depriciation: $34K
Fixtures/Equipment after 2007 and 2008 Depriciation: $22K
Goodwill: $?
Non-Compete: $?

I would like to know what would be the best way to allocate the purchase price of $65k so that it is most tax advantageous to me (seller). Just as an FYI: I bought this business for $40k a few years back and added most of the inventory and assets. How is the capital gains tax calculated when selling the business?
Submitted: 7 years ago.
Category: Tax
Expert:  RD replied 7 years ago.
The Business purchase price is allocated to the Inventory, Fixtures, Goodwill and Non Compete.

Price allocated to Inventory will offset the cost of the inventory and excess will be taxed as ordinary income.

Price allocated to fixtures/equipment will be reduced by the adjusted cost basis of these assets. Any gain on this asset to the extent of depreciation claimed will be taxed at ordinary tax rates. Gain in excess of depreciation will be taxed as long term capital gain.

If the goodwill is self created asset than any amount allocated to goodwill will be taxed as long term capital gain.

Amount allocated to non compete is taxed as ordinary income.

Generally higher allocation to goodwill is preferable from sellers point of view.

Let me know if you have any question.

Please note: This advice is provided with the understanding that all the relevant facts have been provided by you. Any change in facts might affect the advice given and hence may not be relied on in such cases. Nothing contained in this reply was intended or written to be used, can be used by any taxpayer, or may be relied upon or used by any taxpayer for the purposes of avoiding penalties that may be imposed on the taxpayer under the Internal Revenue Code of 1986, as amended.
Customer: replied 7 years ago.
So in your advice, I should leave the cost of inventory as-is and use the depriciated amount for the equipment/fixtures and the rest to goodwill and non compete?

Related Questions:
-If inventory cost is $20k and allocated amount for inventory is $20k than there is no ordinary income, right? What is ordinary income?

-If I allocate depreciated amount of equipment/fixtures in purchase price, will I still have to pay ordinary tax and/or long term capital gain tax?
Expert:  RD replied 7 years ago.
So in your advice, I should leave the cost of inventory as-is and use the depriciated amount for the equipment/fixtures and the rest to goodwill and non compete? <br />Yes.
<br /><br /><br />Related Questions: <br />-If inventory cost is $20k and allocated amount for inventory is $20k than there is no ordinary income, right? What is ordinary income? <br /><br />-If I allocate depreciated amount of equipment/fixtures in purchase price, will I still have to pay ordinary tax and/or long term capital gain tax?
Customer: replied 7 years ago.
-If inventory cost is $20k and allocated amount for inventory is $20k than there is no ordinary income, right? What is ordinary income? <br /><br />-If I allocate depreciated amount of equipment/fixtures in purchase price, will I still have to pay ordinary tax and/or long term capital gain tax?
Expert:  RD replied 7 years ago.
<p>Yes to your first question.</p><p> </p><p>Yes there is no ordinary income if the inventory is sold for the cost price.</p><p> </p><p>Yes, to the extent of depreciation - the gain will be ordinary and be taxed at higher tax rates and not as long term capital gain.</p><p> </p><p> </p><p><a name="OLE_LINK157" title="OLE_LINK157"></a><a name="OLE_LINK156" title="OLE_LINK156"></a><a name="OLE_LINK108" title="OLE_LINK108"></a><a name="OLE_LINK107" title="OLE_LINK107"></a>Let me know if you have any question. </p><p> </p><p>Please note: This advice is provided with the understanding that all the relevant facts have been provided by you. Any change in facts might affect the advice given and hence may not be relied on in such cases. Nothing contained in this reply was intended or written to be used, can be used by any taxpayer, or may be relied upon or used by any taxpayer for the purposes of avoiding penalties that may be imposed on the taxpayer under the Internal Revenue Code of 1986, as amended.</p>
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Customer: replied 6 years ago.
<p>Allocation of Fair Market Value (How I have it filled out)<br /><br />Aggregate FMV / Price Allocation<br />Class I<br />Class II<br />Class III<br />Class IV (Inventory) $21,697 / $21,697<br />Class V (Equipment) $34,237 / $5,000<br />Classes VI/VII $30,763 / $38,303<br /><br />The Price Allocation is how the final sale price of $65k was allocated. Buyer wanted to reduce the equipment price to pay less Use tax and I wanted to know if I should just put the original suggested price of $34,237 for the equipment or keep the Aggregate FMV the same as the Price Allocation. Below is what the closing contract states:<br /><br />===========================================<br />Item / Purchase Price<br />Inventory $21,697.00<br />Equipment $5,000<br />Goodwill $36,303<br />Non-Compete $2,000<br /><br />"The parties acknowledge that the above allocation is their good faith estimate of the fair market calue of the assets being acquired under this Agreement. The parties shall complete all information required by the IRS Form 8594 in conformity with the provisions above."<br />==========================================<br /><br />Also, I used the full value of the equipment (34,237) and not the 5k value for the Total end-of-year assets. Should I have it reflect the 5k value?</p>
Expert:  RD replied 6 years ago.
Yes, if you have allocated $5K to the equipment than the fair market value should be close to $5K. Reporting fair market value at $34K when the allocated price is $5K does not seem reasonable.

Let me know if you have any question.

Please note: This advice is provided with the understanding that all the relevant facts have been provided by you. Any change in facts might affect the advice given and hence may not be relied on in such cases. Nothing contained in this reply was intended or written to be used, can be used by any taxpayer, or may be relied upon or used by any taxpayer for the purposes of avoiding penalties that may be imposed on the taxpayer under the Internal Revenue Code of 1986, as amended.

Customer: replied 6 years ago.

keeping the FMV value of equipment the same as the allocated price value is better for me (seller) anyway, correct?

 

I should just use the same values for FMV as the Allocated Price?

 

Should I use the 5k value for determining the Total end-of year assests?

Expert:  RD replied 6 years ago.
Yes.

That is advisable.

You need to use $5K for the sale price of the assets in determining gain or loss on sale of assets.

Let me know if you have any question.

Please note: This advice is provided with the understanding that all the relevant facts have been provided by you. Any change in facts might affect the advice given and hence may not be relied on in such cases. Nothing contained in this reply was intended or written to be used, can be used by any taxpayer, or may be relied upon or used by any taxpayer for the purposes of avoiding penalties that may be imposed on the taxpayer under the Internal Revenue Code of 1986, as amended.