When a business is sold, the actual sale often occurs via one of two forms, either as a stock sale or as an asset sale. In general, sellers often prefer stock sales while buyers often prefer asset sales.
Although the considerations associated with the sale of businesses vary substantially from one transaction to another, two of the most important and common considerations are: taxation and liability.
Stock Sale
A stock sale is often the simplest way to sell a business, technically.
In a stock sale, the owner or owners of a business simply sell their shares of stock – in cases of unincorporated business structures that do not have stock, such as limited liability companies, limited partnerships, and general partnerships, the owners sell their membership or partnership interests – to the buyers of the business. As a result, the name of the business stays the same, as do the business structure and entity.
A stock sale does not require multiple conveyances of individual assets and/or assignments of intellectual property, unlike an asset sale, which is discussed below.
Taxation
Sellers often prefer stock sales because they often pay less tax on the sales, especially if a particular business is capital-intensive. Buyers, however, often dislike stock sales because buyers “step into the shoes†of the sellers, among other things, meaning that if the business has already fully depreciated its capital assets, the buyers will not be able to take depreciation deductions – thereby lowering taxable income in the short term – and may also be saddled with significant depreciation recapture in the future.
Although the depreciation issue may not have a significant effect on businesses that are not capital-intensive, such as medical practices, dental practices, accounting firms, and other service providers, it can have a very significant effect on those businesses that are capital intensive, such as manufacturers and equipment lessors.
Liability
With a stock sale, not only do buyers purchase all of the assets of a business, buyers also purchases all of the liabilities, both known and unknown, unless sellers agree to pay off liabilities. Unknown liabilities may be especially problematic for certain types of business that are prone to consumer lawsuits, employee lawsuits, or environmental lawsuits associated with hazardous materials.
Just because sellers have sold their shares of stock or other interests in a business, doesn’t mean they are not still responsible for the debts of a business if they have personally guaranteed debts, which must often be addressed with the creditors of the business.
Asset Sale
In contrast to a stock sale, when a business is sold through as asset sale, the buyer purchases the assets of the business, directly. As a result, asset sales often involve many conveyances and, as a result, are generally more complex than stock sales.
Although asset sales are often more complex than stock sales, the complexity is often a byproduct of the flexibility that assets sales enable.
Taxation
Buyers often prefer asset sales because buyers get new tax bases – sometimes referred to as “stepped-up†bases in this context – in the assets they purchase, which allows buyers to take depreciation deductions in order to lower taxable income in the short-term.
Sellers often dislike asset sales if they have substantially or fully depreciated capital assets; because the sale of fully-depreciated assets can result in depreciation recapture and the recognition of ordinary income as opposed to capital gains treatment. However, sellers can sometimes be persuaded to pursue an asset sale, especially if there is significant goodwill associated with the business. In particular, buyers often prefer to allocate as little of the purchase price to goodwill as possible because the depreciation term for goodwill is significantly longer – 15 years – than for many other types of capital assets. Sellers, on the other hand, often prefer to allocate as much of the purchase price to goodwill as possible, in order to minimize any depreciation recapture.
Liability
In contrast to stock sales, which essentially involve buyers assuming the unknown or future liabilities of the business, asset sales generally don’t involve the assumption of such liabilities.
However, liens that are attached to specific assets or liabilities that are secured by specific assets will still be in force and effectively follow the assets, unless the seller agrees to pay off such liabilities.
In sum, assets sales are generally more beneficial to buyers than sellers while stock sales are generally more beneficial to sellers.
| Stock Sale | Asset Sale | |
|---|---|---|
| Taxation | Potentially lower taxes for sellers, potentially lower tax basis in assets for buyers | Higher tax basis for buyers, potentially higher taxes for seller (deprecation recapture) |
| Liability | More potential liability for buyers | Less potential liability for buyers |
This brief overview of some important considerations associated with asset sales and stock sales is by no means comprehensive. Always seek the advice of a competent professional when making important legal decisions.
Steve Cook is an attorney in Mesa, AZ. Although his office is located in Mesa, Arizona, he represents clients throughout the Phoenix, Arizona Metropolitan area including the following east valley cities: Scottsdale, Paradise Valley, Tempe, Chandler, & Gilbert.
