Due Diligence Considerations for Sellers

You may be able to structure the sale of a corporate business as a tax-free reorganization.

Due diligence procedures to consider

However, to be totally tax-free, you generally must receive nothing but stock in the acquiring corporation. In that case, you generally owe no income tax until you actually sell the shares.

In this scenario, the biggest financial risk you face is that the value of the shares declines significantly before you are able to sell them. That can happen if you don't thoroughly investigate the buyer.

Here are some due diligence procedures to consider, in a checklist you can print out, if you are interested in selling a business in a tax-free reorganization transaction:

Considerations for a Tax-Free Reorganization Deal

Ensure that the sale price is more generous to reflect your increased financial risk from receiving buyer stock instead of cash or some other more-liquid asset (or assets).
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Make certain that you can sell the stock that you receive as soon as possible within the constraints imposed by securities laws and applicable tax rules.
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Assess the buyer's overall financial strength and recent operating results by obtaining credit reports and financial statements and performing various financial ratio tests.
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Find out the potential buyer's timetable for completing the transaction.
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Assess the financial health of the buyer's major customers.
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Evaluate the buyer's business plan for the business you are selling.
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Check public records to uncover any outstanding liens and judgments against the buyer or related parties, undisclosed litigation against the buyer or related parties, and so forth.
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Line up a consulting contract for yourself and other executives. This can provide additional cash flow for you along with the added advantage of giving you a chance to mitigate your financial risk by helping to run the business you know so well.
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Make sure you fully understand the tax implications of the buyout deal, and also make sure it is properly structured to deliver the expected deferred tax benefits. Competent professional advice is critical here.
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In addition to federal tax law considerations, make sure you are aware of state and local tax issues, which may not coincide with federal treatment. If your company does business in more than one state, the issues are likely to be more complex.
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These are just a few steps that might be appropriate when evaluating the sale of your business with a tax-free reorganization. Obviously, each case is different. Relevant considerations can vary widely depending on the nature of the proposed deal. To ensure tax-free treatment, professional help is essential and planning should start early in the negotiation process.

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