In this 7-minute read, learn how your business structure impacts the sale/succession of:
- Sole proprietorships
- C corporations
- S corporations
If you are planning to sell your business (or hand it over to a successor) someday, then it is important to know how your business structure can impact your sale. This is an important part of the planning process for your exit strategy.
In this article, we’ll cover the advantages and disadvantages of selling businesses under specific business structures (sole proprietorship, LLC, partnership, C corporation, and S corporation).
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In some instances, it may even be beneficial to restructure your business to gain the most profits for your sale. That being said, please note that this article is strictly informational, and we recommend that you seek out legal counsel to assist in your exit strategy planning.
Sole proprietorships or sole owners
Sole proprietors or sole owners of an LLC, by definition only have one owner. Because of this and the way that taxes are structured for these types of businesses, you can’t technically sell the business—you are the business.
But you can sell the assets of the business that you have created. Essentially, the business can live on. The new owner will just have to register it under a new business themselves and purchase the assets from you because you can’t transfer ownership of these types of businesses.
When you plan to sell a sole proprietorship or single-owner LLC, you’ll want to value up all of your assets, including the intangibles like customer lists and the reputation associated with the brand.
Assets that you can sell:
- Land and property
- Equipment and vehicles
- Brand assets (logo, website, print materials, and other digital media)
- Customer lists
- The goodwill of the business (admittedly this is a little harder to value than the rest)
- Intellectual property rights
Advantages of selling a sole proprietorship:
- The process is simpler than any other type of business structures
- You don’t have to come to agreements with partners
- Because you are just selling assets and not transferring ownership, you can usually sell quicker
Disadvantages of selling a sole proprietorship:
- It can be difficult to apply value to the intangibles like brand reputation, goodwill, and customer lists
- Other business structures are generally more profitable when sold than sole proprietorships
- You can’t pass the business on to a successor; it closes once you liquidate your assets
- Your business debts also don’t move on to the next owner; you have to pay those out of the funds you receive from selling your assets
If you want a tangible business to pass down to a family member or employee, it’s best to incorporate your business well before you make your exit.
Learn how to get started: How and when to incorporate your small business
Partnerships may be the most complex type of business to exit. Because you share ownership with one or more people besides yourself, you have to work out the details of your exit with your partners.
You’ll want to consider your exit strategy as you and your partners put together your partnership agreement. This will help alleviate contentions that may come up later on when one partner wants to retire, sell their shares, and/or leave the business.
In your partnership agreement, be sure to draft up the different circumstances in which a partner would leave the business and how each of those situations would be handled. It’s always a good idea to have your legal counsel involved in this process.
One example of something you might include in the agreement is a “first right of refusal,” which basically means that you (or your partners) retain the right to accept the offer for your shares to prevent a stranger from entering into ownership.
Exit circumstances you should consider including in your partnership agreement:
- A partner wanting to sell their shares
- Death or disability of a partner
- Divorce of a partner (this could result in the ex-spouse gaining shares in the company)
- Retirement or resignation of a partner
- Dissolution should there be an issue that prevents the business from functioning
Advantages of selling your shares of a partnership:
- You can leave the business in the hands of your partners rather than selling it to a stranger
- You aren’t in this alone and (ideally) have the support of your partners as you leave
- You may have more profits to gain by selling than you would if you were the sole owner of the business
Disadvantages of selling a partnership:
- There could be contentions between you and your partners
- Complications if one partner isn’t interested in selling (this is where a well-thought-out partnership agreement comes into play)
- The process is more complex and requires documentation like state registration and new partnership agreements
Limited liability company (LLC)
Each owner of an LLC (if owned by more than one person) is called a member. Each member owns a percentage membership interest of the company, and the operating agreement for the business determines how ownership transfers are handled.
So, again, it can be helpful to know from the beginning how you want to handle your exit strategy so that you can include the details of ownership transfers in your operating agreement.
In order for a member to exit the company, they must sell their shares to transfer ownership to the remaining members.
When a member leaves the company, the LLC must then create a new operating agreement that excludes the former member. A Certificate of Amendment will then be filed with the state to update the agreement, and each remaining member will receive new share certificates.
Advantages of selling your interest of an LLC:
- The business is left in the hands of the remaining members, so it will continue to operate by people who know the business
- The name of the business and its legacy are preserved
- You have the potential to earn more profit than if you were liquidating a sole proprietorship
Disadvantages of selling your interest of an LLC:
- All members may not be on board with your decision to exit (this should be laid out as clearly as possible in the operating agreement beforehand)
In a C corporation, the owners’ percentage of the company is determined by the number of shares they own. In public corporations, these percentages may change frequently due to stock trading. In private corporations, the value first needs to be established so the stock can be priced. Often the shares of a private corporation can’t be publicly sold for a certain period of time (also known as a lockout period).
If you plan to exit the company and sell your shares, you need to plan it so that you are leaving at a time when you are allowed to sell your shares—outside of the lockout period.
You can also sell your shares to the other owners of the company. It is always helpful to have some kind of statement in your operating agreement around how these shares should be distributed at your time of exit.
Advantages of selling shares of a C corporation:
- There is no limitation on the number of shareholders a C corporation can have, so your shares can be sold publicly to as many people as needed
Disadvantages of selling shares of a C corporation:
- C corporations have double taxation, meaning when they earn profits or when shares are sold, the company is first taxed for it and then each member is taxed on their individual income as well
This is where it can be beneficial to restructure as an S corporation prior to exiting the company in order to avoid that double taxation.
S corporations operate similarly to C corporations, with the exception that the company isn’t taxed on income and expenses. All taxes are passed through to the owners. S corporations also have a limitation on the number of shareholders that each company can have. This number cannot exceed 100.
Advantages of selling shares of an S corporation:
- Only the individual owners are taxed for their income on selling the shares
Disadvantages of selling shares of an S corporation:
- There is a limitation on the number of shareholders each company can have, so if your company is at the limit, you can’t find multiple new owners to sell your shares to
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