Advanced Underwriting Consultants

Question of the Day – March 28

Ask the Experts!

Here’s the question of the day.

Question: I’ve heard that the IRS determines a value for a closely held business when one of the owners dies.  How does that work?

Answer: The federal government requires an estate tax return to be filed for any decedent with a gross estate at the time of death in excess of $5 million.  The IRS estate tax return is Form 706.  Generally, it is the responsibility of the decedent’s executor to file the form.

 

On the estate tax return, the executor must list every asset that is included in the decedent’s estate for estate tax purposes.  Along with the description of the asset, the executor must also list the fair market value of the asset on the date of death (or the alternate valuation date, if that is used for valuing the estate’s assets).

 

For cash assets and publicly traded securities, value on the date of death is usually easy to calculate, as valuation information is readily available.  However, for an asset such as a closely held business, accurately valuing the asset is harder.  The IRS wants the asset’s fair market value listed, even though two valuation experts might disagree on a business’s value.

 

However, it is the executor’s responsibility to submit a list of assets and their values on the return, and swear to the IRS—by signing the return—that the information is complete and accurate.

 

If the IRS selects a particular return for review or audit, it may ask the executor for the information used in calculating the fair market value of an asset—such as a closely held business interest.  When the IRS thinks the executor didn’t value the asset correctly, it may calculate its own value.  If the amount of tax increases as a result of the IRS calculation, it may assess a tax deficiency.  Any disagreement over valuation that can’t be resolved between the IRS and the estate will likely be decided by a court.

 

If the IRS thinks the executor has undervalued an estate asset in a significant way on the tax return, it may seek civil or criminal penalties against the executor.  Furthermore, substantial undervaluation may result in tax penalties of an extra twenty to forty percent.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.

 

Question of the Day – September 15

Ask the Experts!

Today’s Question of the Day is being answered by guest experts, Rich Miles and Ben Turner. Rich and Ben are with Capstone Business Advisors, a Brentwood, Tennessee-based company that assists privately-owned businesses with acquisitions and exit strategies.

Question: What does a closely held business owner need to do to make the business attractive to a potential buyer?

Answer: Buyers are attracted to businesses that have real and sustainable profits. Owners of privately-held businesses typically operate their businesses to maximize personal benefits and minimize taxes.  That operating strategy usually minimizes profits.  If the owner wants to make the business attractive to a buyer, the owner likely needs to think about adjusting their strategy.

Once an owner has demonstrated profitability over a period of two to five years, it is important to recognize who the potential buyer(s) might be and what is attractive to them. With that in mind, the business owner can make appropriate adjustments to their business and their expectations.

There is a difference in making a business attractive enough to get the initial attention of buyers and making the business attractive enough to close a successful sale transaction.  The difference lies in the enormous scope of material that could be explored by the prospective buyer during the due diligence process.

In due diligence, a buyer could investigate more than fifty different aspects of a business.  The aspects can be boiled down to 4 general considerations of a buyer as they weigh risk/return and ultimately value:

1.       Financial

2.       Credibility

3.       Transferability

4.       Owner(s)

A business owner planning to sell the company may find that an objective and experienced assessment of the business is helpful in understanding how attractive the business is to the various buyers now.  The business owner can also find out how much work, if any, needs to be done to improve the business’ appeal prior to a sale.    Seeking that kind of help well in advance of putting the business on the market can increase the chances for sale and help maximize the amount of money they get to keep.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.