When it comes time to sell your business you want to make sure you’re getting what it’s worth. After all, you’ve built the business to where it is today, so you want to see the fruits of your labour.
But selling your business comes with its own tax considerations, which you shouldn’t try to navigate without the help of an expert.
If you’re thinking about selling your business in the future, contact Liston Newton Advisory today and start the discussion about a tax effective business sale.
General tax rates when selling your business
For tax purposes, selling your business is considered part of your business’ income, so the sale of your business is taxed under the appropriate tax rate for your business structure.
Sole traders and trust structures
Given that you’re selling a business, you’re likely to be making a substantial sum on its sale. This means that depending on the sale price you’ll generally be charged a tax rate from one of the highest individual tax brackets.
[th]Tax rate on your income[/th]
[td]$90,001 – $180,000[/td]
[td]$20,797 plus 37% on each $1 over $90,000, + 2% Medicare levy[/td]
[td]$180,001 and over[/td]
[td]$54,097 plus 45% for each $1 over $180,000 + 2% Medicare levy[/td]
Your sale is taxed at the nominal tax rate of 27.5%.
Understanding Capital Gains Tax
Regardless of your structure, selling your business is considered to be selling an asset. This means you make a capital gain on this sale, which means you have to pay capital gains tax.
Put simply, a capital gain refers to the profit you make on the sale of an asset.
So if you sell your business for more than what it cost to start, this means you’re making a capital gain on the sale of your business. This triggers a capital gain event, which attracts capital gains tax (CGT).
The amount of CGT you pay on your business sale depends on five things:
- How much it cost you to start the business—your cost base. If you purchased your business, then the price you paid is your cost base. If you started the business yourself, essentially ‘from nothing’, your cost base may be a low as $0.
- The sale price of your business.
- The tax structure your business exists under. Some structures have the ability to minimise tax better than others.
- The tax concessions for which your business is eligible. There are a number of tax concessions that can dramatically reduce the tax you pay, which we discuss below.
- The amount of income you earned for the financial year in which you sold the business.
Let’s look at an example.
- John started his marketing business himself, and has grown his client base so he now earns an annual salary of $200,000. He is taxed at the nominal 47% tax rate.
- John decides it’s time to sell his business, and sells it for $500,000 to an interested buyer. As he started his business for $0, he has now triggered a $500,000 capital gain on its sale.
- Because the capital gain is added to his personal income, the capital gain is taxed at 47%, which adds a potential $235,000 to John’s taxable income.
This is why it’s important to undertake the right planning when selling your business.
Tax minimisation strategies when selling your business
When done correctly, the available CGT tax concessions can enable you to minimise the tax you pay on the sale of your business. In some cases, you may even be able to reduce the tax down to $0.
There are a number of tax concessions available to qualifying small businesses to help reduce the burden of your CGT.
You qualify as a small business if:
- You have a turnover of less than $2 million, or
- You net assets are less than $6 million.
Then, you’re able to access the following CGT concessions.
The first 50% CGT reduction
For individuals, sole traders, and trusts that have owned their business for 12+ months, you receive a 50% reduction on the CGT amount of your sale.
If you’re 55 or older, you’re retiring, and you’ve owned your business continually for 15+ years, you’re eligible to disregard the entire CGT amount on the sale of your business.
50% active asset reduction
An ‘active asset’ is one that’s been active and operational for at least half the time you’ve owned it. A business is considered an active asset.
When selling an active asset, you’re entitled to a 50% reduction on the CGT on the sale.
This exemption allows you to disregard up to $500,000 of your capital gain. If you’re under 55, the capital gain amount must be deposited in your nominated super fund. If you’re over 55, you receive the capital gain completely tax-free.
Small business rollover concession
If selling an active asset, you can choose to roll the capital gain over into a replacement asset. This reduces the cost base of the new asset by the rollover amount.
You can find more detailed information on these exemptions here.
Tax minimisation strategies for companies selling the business
There are a number of CGT concessions available to businesses operating under a company structure:
- If your company is sold as part of a share sale then it qualifies for the first 50% CGT reduction. If sold as an asset sale then it’s not eligible for the first 50% CGT reduction. More on this below.
- If you’re aged 55 or older, you’re retiring, and you owned your company continuously for 15 or more years, you’re completely exempt from CGT on the sale.
- If your company is considered an ‘active’ asset, you’re only required to pay tax on 50% of the capital gain.
- When selling your company, if you’re under 55 and retiring, you can receive up to $500k of the capital gain tax-free, if you pay this money directly into your super.
- When selling the company and founding/purchasing a new one, you can defer the current capital gain into the following financial year.
Asset sale vs share sale: what this means
Companies have the option to sell the business as an asset, or sell its shares.
- A share sale means the purchaser is buying shares in the company, essentially buying the company itself. The legal entity of the company belongs to the new owner, along with the assets of the business.
- An asset sale means the company’s assets are purchased, which includes things like stock, goodwill, equipment, property, or land. This is usually preferable to a purchaser because it means the purchaser doesn't take on previous liabilities of the business.
For a seller it can be a more tax-effective strategy to sell a company via a share sale. Howveer, there is a range of considerations to factor in - and it is not a simple yes/no answer.
The importance of advanced planning
When selling your business, the importance of advanced planning can’t be understated. The further ahead you plan, the better prepared you’ll be to take advantage of CGT minimisation strategies.
In some cases, this planning can begin when you first set up your business. This provides you the opportunity — where practical, of course — to choose a structure that makes you eligible for CGT concessions.
If you know from the outset that your business will grow, and a company structure is appropriate, look at holding your shares in a family trust. This may qualify your company for the first 50% CGT concession.
If you already have an established business, take the time to plan your sale strategy carefully. If the sale rate is likely to tip you over the $6 million net asset test, therefore disqualifying you from the first 50% concession, consider lowering your price to accommodate.
The final word
You should never go into the sale of a business without the correct planning.
It’s critical to get the right support and advice, to help you make the most of your sale, to minimise the tax you pay when selling your business.
A Liston Newton business advisor will help you with thorough and accurate advance planning for the sale of your business. No matter where you are in your business’ journey, we can work with you to create a plan that makes you sale as tax effective as possible.