One diversification strategy to take some risk and money off the table and out of the business is to perform a piecemeal stock sale. In this instance, a business owner is converting non-liquid stock within the business into either cash or interest-bearing debt not tied directly to the company itself. When a stock sale to a party other than the business is performed, it generates a single taxable event that is taxed at the capital gains rate as a recognized gain on sale. This helps to ensure any gain in the proceeds of the business are paid out over time and not in a single lump sum.
Who will you sell to?
Who is going to purchase stock in a privately-held business owned and operated by a small, select group of people? Here are some fairly popular candidates:
A piecemeal stock sale of your business is also referred to as a redemption. It generally triggers a single taxable event, but the proceeds are generally treated as a taxable dividend from the business. In some cases, the piecemeal sale can be treated as a non-dividend producing exchange only if it meets the “substantially disproportionate” standard of Section 302(b)(2) or the “not essentially equivalent to a dividend” in Section 302(B)(1). If the dividend rate is equal to the long-term capital gains rate (which is currently at the glorious level of 15%) the only difference would be the tax-free recovery between the dividend tax and the exchange tax. In many cases, this will turn up as negligible, especially if the shareholder has a low stock basis.
Depending on the shifts in the preferential dividend and capital gains rates, there can be wildly different strategies on how to tackle the nitty-gritty of a piecemeal stock sale or business redemption. It is best to talk to a knowledgeable Phoenix M&A advisor to better understand this and other issues in the piecemeal sale of your business.