While reading my favorite investment and financial blogs and web sites, just before Halloween, I felt it my duty as a consultant to the industry, to summarize what I have learned, and pass it on to those of you who have been sitting on the fence concerning selling your business or acquiring a competitor.
As of this moment, the capital gains rate for 2013 will be raised to 23.8 percent from the current 15 percent. Here’s how that happens.
The Tax Relief, Unemployment Insurance Reauthorization and Jobs Creation Act of 2010 extend the Bush-era tax cuts until the end of 2012. Beginning January 1, 2013, the tax rate will revert from the current 15 percent rate back to the former 20 percent capital gain tax rate that was in effect prior to 2003.
Medicare tax increase
Also beginning in 2013, the national health care reform legislation that became law in March, 2010, imposes a new 3.8 percent tax on certain investment income. The new tax will apply to single filers with incomes over $200,000 and married taxpayers with incomes over $250,000. In general, this new Medicare tax will apply to investment income that is subject to income tax, which includes capital gains.
The net effect of both capital gain tax increases is a new 23.8 percent tax rate for higher earners—the highest rate for long-term capital gains since 1997.
Almost anything you own, from houses, cars, boats, stocks, bonds, and assets within a business are all liable to receive tax treatment as capital gains, if you sell them for a profit. And the profit on your business is basically determined by net amount you sold it for, minus your initial basis (the amount you started the company with) yearly net losses and specifics within your state.
POTUS and Congress
At this time the Presidential race is neck and neck. Will capital gains and the spending cuts and Bush tax cuts, change depending on who is elected? The legal answer is no. Not at least by the start of 2013. The political answer is maybe.
Both candidates need the approval of congress to change the sequester and the law. I don’t believe the total makeup of Congress will look any different after the election (Democratic Senate and Republican Legislature). Therefore, the changes that go into effect at the end of 2012 will happen unless Obama and the Congress compromise their positions beforehand. And time is running out.
How should this affect your decisions?
If you are not considering selling or possibly purchasing a competitor in the near future, then this issue, for you, is kicked down the road. If you have been considering selling and the laws are not negotiated, you can be liable for 8.25 percent more in government taxation next year then currently. On a typical $1 million dollar company, on average it means you would receive about $50,000 less after all taxes were paid. On a $5 million dollar company it would be about $235,000 less which could easily change your retirement plans or leave you with that much less for investment or money to purchase or start another business.
If you are purchasing a competitor, in most cases, the seller will ask a higher selling price to help pay for these additional costs. Either way, it is a lose-lose for everyone.
It's not too late
With only 8 weeks left to complete a transaction, is it too late to start a transaction? No.
Most transactions we list, for example, can be closed in 8 weeks, although buyer and seller would need to co-operate. If there is unnecessary negotiation, or lawyer interference, it would be going past the end of 2012.
There are some legal ways to essentially close a deal this year without money changing hands or a transition taking place in 2012. That would make most deals doable this year.
A decision to buy or sell anything as important as a business or real estate should never be determined solely on the consequence of a tax treatment. It’s an important consideration but only one of many that have to be looked at in order to make such an important move.