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There are two main types of purchase agreements that are used to buy a business; a stock purchase agreement and an asset purchase agreement. Each of these purchase agreements has advantages and disadvantages. Many times it depends on whether you are the seller or the buyer.

There are major advantages of buying a business. A company that’s been around for many years, has established strong relationships with their customers and suppliers. These strong bonds are a result of a long history of their being dependable, trustworthy and offering a good product or service for a fair price. Because of this, it’s a major uphill battle for a new company to get customers to switch away from a company they have been doing business with for years. One way to get around this dilemma is to buy a business with a well-established track record rather than open a new one.

Purchase Agreement

What Type of Purchase Agreement Should You Use to Buy a Business?
Newbusinesscreator.com

If you are considering buying a business, the first thing you want to consider is whether you want to purchase the entire business or just purchase certain assets.  When you buy a corporation in its’ entirety, you usually accomplish this with a stock purchase agreement. You’ll want to propose an asset purchase agreement if you are only interested in buying certain assets, a subsidiary, or certain product lines from a company.

The following are factors that determine whether a stock purchase agreement or an asset purchase agreement is more favorable in your circumstances:

1. Taxes

The tax advantages and disadvantages of each type of purchase arrangement largely depend on whether you are the seller or the buyer. In most cases, a seller will want the sale to be a stock purchase agreement. One of the main reasons a buyer prefers a stock purchase is that the sale will be taxed based on long-term capital gains rates rather than ordinary income tax rates which are much higher. Currently the top federal income tax bracket is 39.6% on taxable income over $406,750. In contrast, the top federal tax bracket for long-term capital gains is 23.8%. On a million dollar sale, a seller would pay $158,000 less in federal taxes if it was a stock sale rather than a sale of assets.

Sellers can often pay lower state taxes if they sell their business with a stock purchase agreement rather than an asset purchase agreement. In many states, a seller will pay sales tax on the sale of assets and nothing if it’s a stock transaction. This can potentially amount to a lot of money. Currently the top three states with the highest combined state and local sales tax rates are Tennessee (9.44%), California (9.08%), and Arizona (9.01%).

Another reason a seller prefers selling stock versus assets is that sales of assets can be subject to double taxation if their business is a C-corporation. When a corporation sells an asset, the corporation pays tax on the gain from the sale. The stock holders then pay tax on any proceeds from the sale that are distributed to them.

Buyers have an entirely different perspective when it comes to paying taxes on the purchase of either stock or the assets of a company. Generally, buyers get better tax treatment with an asset purchase. A buyer can depreciate the total cost of the purchased assets over a certain number of years depending on what type of asset it is. For example, computers, office equipment and light trucks can be depreciated over a five-year period. Goodwill is depreciated over a 15 year period. A commercial building, on the other hand, has to be depreciated over 39 years. As a result, when it comes time to allocate the relative values of the various assets that are being sold, most buyers prefer that the value of items with a faster depreciation schedule be adjusted up, and the ones with a slower depreciation schedule be reduced down. By doing this, the buyers can reduce their taxes more quickly during their first years in business.

When it comes to allocating the value of assets sold in a business transaction, a seller almost always wants the opposite of what the buyer prefers. Sellers want to allocate most, if not all, of the purchase price to the capital assets. The reason for this is that a sale of a capital asset is taxed as capital gain rather than ordinary income. Capital assets are assets that have a life-span of a year or more and are used by the business to generate a profit. Examples of capital assets are land, buildings and heavy equipment. The reason buyers don’t want the value of the business to be allocated to capital assets such as land and buildings is that the depreciation schedule is much longer for these types of items.

2: Liabilities

Sellers will generally prefer a stock purchase of their business because it allows them to completely step away from it once it’s sold. Once the stock sale is completed, they become completely free from any future obligations and liabilities associated with the business.

Buyers have a completely different outlook when it comes to factoring in liabilities in a sale of a business or business assets. Oftentimes, it is difficult to quantify a company’s total potential liabilities. When a buyer buys an entire company, they assume all of its’ assets along with its’ liabilities. With an asset purchase, on the other hand, the buyer only assumes the liabilities associated with the items that were bought. As a result, buyers often prefer an asset purchase over a stock purchase.

3: Avoiding Redundancies

One of the main reasons why buyers usually prefer an asset purchase over a stock purchase is that it allows them to cherry-pick the assets they need. An asset purchase also avoids buying redundant product lines and manufacturing facilities. It also saves them from having to eliminate overlapping personnel.

Conversely, sellers are often averse to splitting up their company. One of the main reasons is they have a lot of personal investment in their business. As a result, they don’t want it torn apart like an old car and sold for parts. In addition, splitting up the company can make it difficult to dispose of the remaining unsold assets.

4: Non-Assignable Contracts, Licenses and Permits

One of the biggest advantages a buyer receives from purchasing a company’s stock is that they aren’t required to retitle non-assignable contracts, permits and licenses in their name. Getting new permits and licenses will increase costs due to added fees. Trying to re-title a non-assignable contract can result in new negotiations that might result in less favorable terms. When a buyer purchases the entire company, they maintain the business entity that holds title to these assets. As a result, they aren’t required to get the consent from the parties to the contracts, permits and licenses held by the company.

5: Compliance with Securities Law

Purchasing a company outright is more complicated with regards to compliance with state and federal securities laws. When a buyer purchases business assets they are not required to comply with federal and state securities laws and regulations.

In summary, whether a stock purchase agreement or an asset purchase agreement is more favorable often depends on whether you are a buyer or a seller. Often a seller will demand a higher price in cases of an asset purchase. The reason for this is to make up for the higher taxes they will incur from the sale. Another reason to consider a stock purchase is that the business transition usually goes more smoothly. When the business entity is left intact, all of the existing non-assignable contracts, permits and licenses are left in place and don’t have to be re-titled. In addition, it will be less likely that customers will jump ship if things are kept the way they were before the sale. Changes can then be introduced gradually after a stronger relationship is established between the customers and the new owner

If you are interested in purchasing an existing business, I would urge you to visit 4BizListings.com. On this site you can search by industry category and by geographic location for business opportunities that fit your skills and interest.

If you are looking for information that will help you start or run a small business, I would recommend that you check out NewBusinessCreator.com. This web site simplifies and condenses the important things you need to achieve business success. It also serves as a portal to a number of affiliated listing sites that enable you to obtain the business funding, human resources, materials and marketing tools that will be required make your dreams a reality. So are you ready to make your dreams come true? Is it time to stop wishing and start planning your new future? If so, you owe it to yourself to visit NewBusinessCreator.com. You have nothing to lose. Access to the site is totally free. Remember that access to all of the listing sites for transforming your plans into reality can also be found in NewBusinessCreator.com.

DISCLAIMER: This site and any information contained herein are intended for informational purposes only and should not be construed as legal advice. Seek competent counsel for advice on any legal matter.

Written by: Mark J. Krupp, Confounder of NewBusinessCreator.com

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