What a Capital Gains Tax Increase Could Mean for Business Owners

Capital Gains - REAG

Thinking of selling your business? You may want to do it soon. If passed in the house and senate, the proposed capital gains tax increase will nearly double the current tax rate. This means you may see reduced proceeds from the sale of your business. 

What is the Proposed Change? 

To help fund the $1.8 million American Families Plan, the Biden administration has proposed a higher top tax rate on long-term capital gains for Americans who make more than $1 million per year. The tax rate would increase from 20 percent to 39.6 percent on gains from the sale of stocks and other investments. 

Business owners who sell their businesses after the tax hike will feel the impact (more so than during a normal filing year). So, time is of the essence. 

Capital Gains Tax Defined 

Capital gains tax is a tax charged on all capital gains. When a business sells its capital assets—buildings, machinery, equipment, goodwill, etc.—the business owner pays taxes based on how long they’ve held the assets. 

Short-Term Capital Gains  

Assets held for less than a year are called short-term capital gains. When taxed, short-term capital gains are taxed as ordinary income, just like wages or salary. 

U.S capital gains tax does not apply to short-term capital gains.

Long-Term Capital Gains 

Long-term capital gains include assets held for more than a year. Depending on a business owner’s tax bracket, tax rates are currently zero percent, 15 percent, or 20 percent. 

Those in the top tax bracket (which currently sits at 20 percent) will feel the effects of a capital gains tax increase. Their tax responsibilities will increase to 39.6 percent, and that’s on top of the existing 3.8 percent investment surtax on higher-income investors and state taxes. 

When you sell your business, you will most certainly fall into this tax bracket. 

What Does This Mean for Those Selling a Business? 

If you’ve been considering listing your business for sale, now’s the time. If you’re planning for a sale in the next few years, it might be a good idea to expedite your timeline. Waiting even six months could mean you’ll pay more in capital gains taxes. For example, if you’re selling a $5 million business, after the 20 percent tax increase, you’ll need to get another $1 million from the sale of your business just to break even after-tax. 

From listing to closing, it generally takes between six and nine months to sell a business based on current market conditions. Business owners who start the process now and close a transaction prior to the end of the year will likely be glad they did when it comes time to file their 2022 taxes. 

You’ve invested endless time and energy into your business. This is your chance to monetize that investment and maximize that value so you can live your life the way you desire post-transaction. 

Benefits for Buyers 

Sellers aren’t the only ones who will benefit from taking action before the proposed tax increase is implemented. Business acquirers will need to pay 20 percent more for the same asset after a capital gains tax increase is implemented for the seller to achieve the same after-tax number, which means time is of the essence to close deals. 

A Cause for Alarm, Not Panic 

Experts predict democrats and republicans may compromise on a lower rate before the capital gains tax increase goes into effect. Then both chambers of congress will have to vote on the increase before it can become law. However, an increase is inevitable. The outstanding question is the size of the increase.  

Get the Process Started 

The first step is scheduling a discovery call with REAG. Our first conversation is dedicated to getting to know your business and your goals for the sale. Then we create a plan to help you accomplish those goals. 

Why choose REAG? We bring investment banking expertise without the frills to advise you as you grow, enhance, and transfer ownership of your business. We simplify the process so you understand what it takes to get the maximum value from your business and accomplish what you set out to do as an entrepreneur. 

Schedule a call with our team today!