In the best of all worlds when you sell your winery, both you and the buyer will minimize your taxes. While the buyer is looking for the best possible deal, you’ll want the same.
When you minimize the combined taxes of buyer and seller, you are increasing the value of the transaction. Consequently, you will be in a better negotiating position with the buyer of your winery.
This article discusses the most common ways to structure a winery sale transaction, and how these structuring methodologies will impact both the seller’s and buyer’s taxes. As Winery Sales Specialists, we’ll generally look at several options, but focus on the ones that maximize your after tax money.
What You, The Winery Seller Considers
You will want to minimize your capital gains and set the timing of the gains. For example, you might want your gain to coincide with the receipt of installment payments.
Also, the seller will be concerned with the nature of the payment. At current tax rates, the rate on capital gains is less than that of ordinary income. Thus, you will want the gain characterized as capital gains, and not ordinary income.
What the Winery Buyer Considers
The buyer, on the other hand, wants to reduce the after-tax cost of acquiring the winery. He may want to buy the assets of your winery, which he can then depreciate quickly. Or, your business may have a net operating loss or tax credit carryforward that he can preserve for future use.
The buyer may be in a position to pay more for your business if he can see favorable tax implications from the sale.
How to Structure The Sale of a Winery
There are three major structural alternatives in the purchase or sale of a winery:
- Sale of assets
- Sale of stock
- A Merger
What’s Better? Selling Stock or Assets?
The main goal, of course, is to maximize your after-tax gain. This isn’t as easy as it might appear at first because each structure has its inherent advantages for both buyer and seller. When the structure is to the buyer’s advantage, then as the seller, you can negotiate a higher price.
On the other hand, if the structure is in your favor as the seller, then the buyer will often want to negotiate a lower price.
Some of the difference has to do with the tax structure of your winery. For example, with a C corporation, the seller usually does better by selling stock. If you sell the stock, you pay capital gains on your net proceeds from the stock sale, based on your tax basis in the stock (what you paid into the corporation in exchange for the stock).
If you sell the assets, you’re “taxed twice.” First, the corporation will pay capital gains on the difference between the selling price and the tax basis of the assets. Then, when the corporation is liquidated, you’ll pay personal capital gains on the excess of the net proceeds of the sale, over your existing basis in the stock. Plus, the capital gains tax rate for the C corporation is (currently) much higher than the personal capital gains rate.
The buyer might push for an asset sale because he’ll see an immediate tax benefit. For example, if a buyer pays $1 million for an asset-based deal, then the IRS allows the buyer to start depreciating those assets immediately.
In contrast, when a deal is structured around stock, the assets on the books must be amortized at their value to the seller, which is likely to be far less than the total sale price. The negative aspect from a buyer’s vantage point is that intangibles like goodwill can’t be written off as quickly as they might be in an asset-based deal.
Consider the Inherent Risks
When the buyer purchases the assets, he has an opportunity to significantly reduce the risk of the purchase. Assets include hard assets — real estate, computer equipment, furniture, and all your wine-making equipment — as well as intangibles, such as your brand, reputation, client lists, and so-called goodwill.
When you buy assets, nothing unwanted gets carried over from the original corporate entity. If you buy the company’s stock, then you get all the disclosed, but also undisclosed, liabilities. Buyers are concerned about what might be lurking in the dark, such as environmental liabilities, lawsuits, or even unpaid tax bills.
There are ways to mitigate the risk in the agreement. For example, in an asset sale, the contract can state that the buyer will assume certain liabilities of the seller. Because third parties won’t be bound by the terms of the contract, the contract can also include escrow arrangements or indemnification clauses that will remove some of the buyer’s risks, by stating that the seller’s money will be used to pay for claims.
When Might a Buyer Want Stock?
There are some reasons why the buyer may prefer a stock sale in certain situations. Certain contracts such as leases, supply contracts, customer contracts, or employment contracts may have been written between the corporation and the third party, and it will be easier for the buyer to maintain these contracts if the stock is transferred.
There are ways to protect the buyer from potential problems in a stock sale. One of the reasons we insist on full disclosure and transparency is that we can mitigate many of the issues through the due diligence process. You, as the seller, can also make certain representations and warranties regarding the business that will ease the mind of the buyer.
Stock sales may also be simpler to carry out since there’s no need to transfer and re-title every single asset.
You can find buyers who won’t care if they can’t depreciate assets, maybe because they’ll be taking on so much debt tied to the transaction that they don’t need any more tax write-offs. Or your own company might carry with it other advantages, maybe in the form of a below-market lease or some other beneficial legal agreement, which could compensate.
Does a Merger Make Sense?
You can also merge your business with the buyer’s existing business to create one surviving entity. In a merger, the surviving entity includes all of the assets and liabilities of both companies.
From your point of view as the seller, the merger is similar to a stock purchase But you are paid in stock of the new company. This is usually not a liquidity event, meaning after the merger you would own a certain percentage of the new entity.
This type of structure is uncommon for closely held companies. It involves some complex issues, and it may not be easy to combine the two separate organizations into one. We have successfully done mergers and the most common reason is the merged entity has higher total value after the merger, and we then sell the merged company afterwards.
If you’re structured as an S corporation or LLC, your life may be easier. There’s maybe no tax advantage to selling stock over assets. Either way, the gains get passed directly through to you as the stockholder. If the buyer benefits from an asset sale, then you’re in a better position to negotiate a higher price, because either way your tax liability will be the same.
Please contact us today about California wineries for sale or selling your winery.