Business Acquisition Tax Deduction

May 11, 2023

by a searcher from Pennsylvania State University in Philadelphia, PA, USA

Hi all - I'm wondering if anyone has been successful at structuring an add-on deal in such a way to maximize tax deduction for small acquisitions.

Background: I own a small company that is expanding via roll-up acquisitions. These are all super small (think###-###-#### 700k acquisition range). As you would imagine, there is a big opportunity to make a creative deal in this range to limit tax liability.

Example deal structure:
- 500k Acquisition
- 100k down payment (not tax deductible)
- Retain current owner as a part time employee (eases client transitions)
- 100k quarterly payment to current owner based on business KPIs. This is where I thought there might be an opportunity. Example, since the current owner would be an employee, the payment could be made as employee bonus. Which results in the ability to tax deduct as compensation. (is this legally possible?)

I know... I should consult the deal team. But I figured I'd try to to source information here.

^redacted‌, maybe this can be a viral tweet?

Thanks!

Reply by an investor
from University of Pennsylvania in Charlotte, NC, USA

A couple of additional thoughts: In addition to the tax issue created for the seller, consider that you will be paying employment taxes on the amount structured as compensation. In you instead structure payments as consulting fees, you avoid payroll tax. However, in either case, I think the payments have to meet a reasonableness test in case the IRS comes looking. Also, you will not get the benefit of acquiring tax-deductible goodwill (assuming that was going to be part of the purchase price allocation.) Re personal goodwill I believe amortization of both personal and corporate goodwill is tax deductible over 15 years, so this doesn't offer you a direct tax benefit as buyer. As long as it's not a C corp seller or S corp with built-in gains, personal or corporate goodwill has the same tax consequences for the seller. But if there is a reason to explore that angle, factor in the added complexity, legal cost and uncertainty of a tax court challenge.

Reply by an investor
from The University of Chicago in Chicago, IL, USA

It is extremely rare that a deal of this size is structured as a stock transaction. As Abhishek pointed out, tax deductibility for the buyer is inconsistent with the seller's desired outcome. Take a look at the concept of a business owner selling his or her "personal goodwill" as one of the assets sold (ref: Martin Ice Cream Co.). If the seller is key to customer relationships or select customer relationships - your fact pattern may line up to the requirements. A "goodwill" asset is tax deductible; and the sale of "personal goodwill" qualifies for capital gain treatment.

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