The Tax Bill When You Sell Your Franchise: Questions to Ask Your CPA First

The Tax Bill When You Sell Your Franchise: Questions to Ask Your CPA First

The tax bill when you sell your franchise is not set by the price on the closing statement alone. It can also depend on what you sold, how you are paid and how your business is held, and those are fixed in the offer, not at tax time. Your CPA works out what you owe, and we cannot. This article lists the questions to put to your CPA while the deal can still change. For most topics we name the question to ask, not the rule, because rules change.

Why isn't the number on my closing statement what I keep?

Tax generally follows what was sold and when you are paid, not only the headline price. A franchise sale can involve several things at once, such as equipment, inventory and the goodwill of the business, with the price split across them.

The IRS speaks of a sale of a group of assets. Its Form 8594 page says "the seller and purchaser of a group of assets that makes up a trade or business" both use the form to report a sale where goodwill or going concern value attaches, or could attach, to the assets (IRS, About Form 8594). The page does not say how the price is divided or how each part is taxed; that is a question for your CPA.

Because both sides file, ask your CPA how your filing and the buyer's are meant to line up. Our article on earnouts, seller notes, and escrow covers where the split sits in the deal.

Rates change, and a number here could be wrong by the day you read it, so take any rate from your CPA.

Does the depreciation I have already taken come back when I sell?

It may. The term to ask about is depreciation recapture: the tax treatment of gain that comes from depreciation you already deducted on equipment. A franchise location can carry years of depreciated equipment, so this is worth raising early.

How recapture is taxed in your sale is a question for your CPA. Ask:

• Does recapture apply to the equipment in my sale?
• What value does the draft agreement place on that equipment? The answer changes the gain your CPA is working with.

If I carry a seller note, do I pay tax on the whole gain in the year I sell?

Not necessarily, and your CPA should confirm it for your sale. When part of the price arrives in a later tax year, the installment method (Section 453 of the Internal Revenue Code) is the provision to ask about. It lets a seller report gain as payments arrive.

Put three questions to your CPA:

• Is the installment method open to me on this deal?
• Is any part of the gain, such as recapture, taxed in the year of sale even though the cash arrives later?
• Does it matter that my buyer is a relative or a related business? An owner selling to a family member or a related business should ask this before the terms are set.

Our article on earnouts, seller notes, and escrow covers what a seller note looks like as a deal term. This is the tax side of the same instrument.

Does the interest rate on my seller note matter for tax?

It can, so ask before the note is drafted. Each month the IRS publishes prescribed rates for federal income tax purposes, known as Applicable Federal Rates (IRS, Applicable Federal Rates page), and that is the term to ask your CPA about. Ask whether a note at the rate you and your buyer have in mind would be treated differently from the way you both intend.

The check belongs on the day the note is written, not on the day you read this.

Does selling stock instead of assets avoid these questions?

Do not assume it does. Ask your CPA first. Some stock purchases can be treated for tax as asset purchases if an election is made, and Section 338(h)(10) is the one to ask about. It is a specialist election, so take the question to your CPA or a tax attorney.

Our article on asset sale vs. stock sale covers the structure. This is the tax question inside that decision.

Can I use a 1031 exchange or the small business stock rules?

Ask your CPA about both before you build a plan on either. They are provisions owners hear about in other settings, and they fit a franchise sale less easily than they sound.

• A 1031 exchange is a tool from real estate. What qualifies changed with the Tax Cuts and Jobs Act, effective 2018, so older articles may mislead. Ask whether anything in your sale qualifies, such as a building you own.
• Qualified small business stock (Section 1202) depends on the kind of corporation that issued the stock and how you came to hold it. Tell your CPA what entity owns your franchise and how you acquired it, and ask whether the rules reach you.

What should I do before I sign a letter of intent?

Do three things you control.

• List what you are selling. Equipment with purchase dates, any inventory, any real estate, and the entity that holds each. If you own more than one unit, list them unit by unit.
• Decide how you would like to be paid. All at closing or partly by note, and ask your CPA what each does to the timing of the tax.
• Take the draft terms to your CPA before you sign a letter of intent, not after you close.

Your CPA, or a tax attorney, decides this with you. We do not.

A free Opinion of Value needs no tax decision. It is a personal valuation page with a custom video walkthrough recorded by a senior advisor, free and with no card on file, and it is not a tax calculation. Request your free Opinion of Value when you want your own number before an offer arrives. If you decide to sell, our sell a franchise page shows how we work with owners.

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