Selling to an ESOP Enables a Business Owner to Defer/Avoid Taxation

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Long-term capital gains rates are currently scheduled to increase from 15% to 20% on January 1, 2013.  In addition, capital gain income will also be subject to an additional 3.8% Medicare tax.  This 59% increase will make an IRC Section 1042 Tax Deferred Sale of Stock to an ESOP more attractive.

In a Section 1042 sale, if the business owner:

(1) makes the appropriate election,

(2) sells enough C Corporation company stock so the ESOP owns at least 30% of the company after the transaction, and

(3) invests (a.k.a. rollover) the sale proceeds in qualified replacement property (a.k.a. QRP, generally stocks or bonds of domestic operating companies, though floating rate notes (FRN) can provide additional investment flexibility) within the replacement period (3 months prior to 12 months after), 

then any gains are deferred until the QRP is liquidated (and then taxed at long-term capital gains rates).

If the seller still holds the QRP at death, then the QRP will receive a step-up in basis and taxation will be avoided altogether.

Deferring or avoiding taxes will ultimately increase the after-tax sale proceeds.  This is a powerful business transition and succession planning strategy that will become more valuable as capital gains increase.

Our series on Selling to an ESOP explores many of the benefits of selling to an ESOP:

• Selling to an ESOP in 2012 Increases After-Tax Proceeds by 43%

• Selling to an ESOP Pays for Itself

• Selling to an ESOP Provides a 15%+ Expected Rate of Return

• Selling to an ESOP Provides Full Payment at Fair Market Value

• Selling to an ESOP Provides Additional Value for the Seller

• Selling to an ESOP Increases Cash Flow by Eliminating Income Taxes

• Selling to an ESOP Enables a Business Owner to Defer/Avoid Taxation

• Selling to an ESOP Enables a Business Owner to Sell In 60-90 Days

• Selling to an ESOP Creates an Internal Market and Built-In Buyer

• Selling to an ESOP Enables a Business Owner to Sell While Retaining Control of the Company

• Selling to an ESOP Provides a Business Owner with Liquidity and Diversification

• Selling to an ESOP Provides Greater Employment Stability and Increases Job Satisfaction

• Selling to an ESOP Saves Local Jobs and Strengthens the Local Community

• Selling to an ESOP Rewards Loyal Employees & Preserves Company Legacy