five areas to calculate.
by ed mendlowitz
202 questions and answers: managing an accounting practice
question: how much can i sell my practice for? and how do you value a tax practice for sale?
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response: good questions and ones i get all the time. here is a listing of some of the things that need to be considered in the pricing. when you sell your practice, the elements that need to be dealt with are:
1. purchase price (as a multiple of gross)
- can be anywhere from 50 percent of gross to 150 percent; needs to be negotiated based on circumstances
- for example, buying from a widow two months after the accountant died might only be worth 50 percent of the annual gross, while a planned immediate orderly transition might be worth 100 percent to 125 percent, and a practice with very high fees might be worth 150 percent or more.
- commodity-type practices might have a greater potential for client retention than a premium service firm that requires a lot of hand-holding and evening calls from clients.
- the buyer wants to acquire the predictability of cash flow and/or their ticket into their own practice, but at the end of the day, the practice will be paid for out of the practice’s excess cash flow. figure out what that is for a year and work backward to determine the price and multiply by five (for a five-year payout, making allowances for down payments). even if the payments are made in full from proceeds from a bank loan, the repayments will have to come out of the practice’s cash flow. if the price is too high or not realistic, those loan payments won’t be able to be made.
- if the practice being sold is to be a “stepping stone” for an eventual bigger practice or higher fees, or for an “upgrade” to be able to sell financial products, then maybe the price can be higher, but this is not the norm.
- if the expectation is to sell financial products to the tax clients and a higher price is offered, consider how you will be paid if that doesn’t occur, and whether the goal of the buyer will be to retain clients, or not care about retaining them. measure that against the guarantees provided to you.
2. what “gross” is the determinant?
- last year’s gross
- this year’s projected gross
- actual collections for work done during the first full year that becomes the base
- actual collections for work done during the payout period (e.g., 20 percent of collections for five years). my partner and i did this once with no down payment, no guarantee, but we gave the buyer “capital gains” on our payments to him. he ended up collecting 140 percent of what his previous year’s gross was. this was a win-win for both of us. note: we did not lose any business clients, but did lose most of the individuals – it is 18 years later and we still have most of the clients.
3. terms of payment
- amount of down payment as a percentage of the total projected price
- period of payments
- whether interest is added or included as imputed interest
- interest rate
4. guarantees
- personal
- corporate or llc
- none
5. characterization of payments
- non-employee compensation (taxable as ordinary income plus self-employment tax)
- deferred “pension” payment (might be subject to section 409a)
- sale of a section 197 asset (long-term capital gain with no imputed interest for the seller, and 15-year amortization for the buyer)