use goodwill to maximize exit readiness 

randy a. fox, cfp, aep is the founder of two hawks consulting llc. he is a nationally known wealth strategist, philanthropic estate planner, educator and speaker.

three steps to get you started.

by randy a. fox, cfp, aep 
the holistic guide to wealth management

for many of your clients who are successful entrepreneurs, their business represents 80 percent to 90 percent of the value of their estate.

more: an accountant’s role in exit planning | how to prepare your clients’ kids for their inheritance | annuities and insurance growing more attractive | quantifying the value of an advisor | raise your rates to change your clientele | how wealthtech is reshaping the future of holistic advice | profile of a modern firm: putting the vision into practice | tsunami of m&a, pe is disrupting the accounting profession | introducing you to a fulfilling return on relationships
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while it seems like a large number on paper, it’s often illiquid, preventing the owner from enjoying the rewards of all their hard work. the lack of liquidity can also make owners reluctant to do the right kind of planning to maximize their “walk away” money post-sale.

labor shortages, supply chain disruptions, record-high interest rates and fear of a rising capital gains tax have taken the joy out of running a business for many owners in their 50s and 60s. it’s tempting for them to sell with a glut of private equity (pe) money seeking deals. but millions of boomer business owners still haven’t been able to pull the trigger and ride off into the sunset, with a financial windfall for you to help them manage.

what gives? quite simply, too many owners haven’t taken the steps to make their businesses sellable. as a trusted advisor, you have a unique opportunity to create value here.

trapped in their business: owner value vs. market value

my colleague rob slee, founder and managing partner of the middle market investment banking firm robertson & foley, likes to point out that 90 percent of boomer business owners are “trapped in their businesses” because they haven’t created enough value to sell to a third party. i, too, have seen far too many owners treat their businesses as dictatorships that can’t run without them in the office every day. they also treat the business like a personal piggy bank rather than as a sellable asset. when a business is so owner-centric, it’s hard to create enterprise value. most owners i know are obsessed with ebitda (earnings before interest, taxes, depreciation and amortization) but pe firms pay close attention to the “owner’s addback” line on the balance sheet. this is where you find all the cars, vacations, costco bills and other non-business expenses the owners are running through the business. and those discretionary expenses, which can really add up, depress multiples.

“almost every owner i’ve ever met thinks their business is worth about twice what the market is willing to pay,” observed slee, who wrote the book, “private capital markets: valuation, capitalization, and transfer of private business interests.” owners tend think in terms of what they need for the business to be worth after taxes. unfortunately, the market is looking for value and “couldn’t care less what owners need their business to be worth,” added slee.

too much money/too few good deals

with nearly 5,000 pe firms in the united states holding nearly $2 trillion in committed, but unallocated, dry powder globally, slee said the amount of money looking to buy companies is “10 times what it was 20 years ago.” however, he said pe is only able to act on 2 percent of boomer businesses because the owners haven’t structured them to be saleable.

this is a ripe opportunity for advisors to help their clients unlock enterprise value. here are some of the main challenges we see and strategies for overcoming them.

generation gap

it’s no secret that fewer private businesses are transferring to owners’ adult children because the kids see the toll that the business took on their boomer parents. “they want the money, but they don’t want to do what it takes to build the business,” slee told me recently. “of the last 25 family businesses i’ve sold, not one was bought by the owner’s children,” he added. in my own experience, i’ve seen the founder’s kids typically stay on for three or four years under the new ownership, but again, they have no intention of taking over the reins. they just want a paycheck. that’s not contributing value to the business. 

ego

another challenge is that boomer business owners think that as soon as they start talking about exiting their company, it’s the first step toward the “elephant graveyard.” that’s ironic, because the better the business can run without them, the more it’s worth to a potential buyer. more on that in a minute. many owners don’t really want talk to their advisors or family members about an exit until somebody knocks on the door with an offer. but, by that point, it’s too late to implement many of the good planning opportunities.

charitable giving shortfall

at the start of every conversation about selling a boomer business, i typically hear two things:

1. “i want to take care of my employees.”
2. “i want to give a large amount of money to establish a charitable foundation.”

but once owners see what’s left of their proceeds after taxes and transaction costs, those good intentions often take a back seat. there’s not enough money left to follow the charitable aspirations. also, by the time owners get to slee and i for help, they often have binding letters of intent signed. legally, it’s too late to do things like set up a charitable remainder trust or some other charitable structure.

when to start planning

as you’ve probably seen, owners typically haven’t considered how they’re going to construct their exit transaction for maximum value or how they’ll manage the money afterward. it’s purely an afterthought. in a perfect world, people like rob and i would be called in three to five years in advance of the sale. one of the first things we’d do is focus on the business’s enterprise value, and that means making the owner irrelevant to the business. the owner must learn to create a smooth-functioning, sustainable business that can run just fine without them. without that, they don’t really have a business, they just have a job.

crts and pifs

with several years of lead time, we could position shares of the company in appropriate charitable vehicles way ahead of the sale, such as a charitable remainder trust or pooled income fund (pif).

both types of trusts provide an upfront income tax deduction and avoidance of capital gains tax on the sale of the company shares. what’s more, the trust generates an income stream for the remainder of the business owner’s lifetime, their spouse’s lifetime and, in the case of a pif, it might allow for an income stream for their children’s lifetime. the owners might also want to transfer some of their wealth to future generations to reduce the size of their taxable estate. they might also want to ensure there’s enough liquidity in the event of a premature death. typically, this is accomplished by acquiring life insurance and, further, with comprehensive estate planning.

get needed liquidity

as mentioned earlier, a business often represents 80 percent to 90 percent of an owner’s net worth. but it’s illiquid. if the owner dies suddenly, their estate will likely owe tax and probably won’t have enough money to pay it. with enough time to plan, you can craft tax-efficient ways to create the necessary liquidity for your client’s estate. the $24 million estate exemption is set to sunset at the end of 2025, and many expect it to be cut in half. the time to start planning is now. that’s where you come in.

goodwill hunting for clients selling a business

as a cpa, you’re highly attuned to the tangible assets of a business and making sure they are recorded and accounted for correctly. but so much of the negotiations focus on the intangible assets of a company – the special sauce the dynamic owner brings to the business – i.e., the amount a buyer would pay over and above the seller’s net assets at fair value. some of the goodwill is “enterprise” goodwill and some is “personal” goodwill. in a minute i’ll explain why isolating personal goodwill can be highly advantageous for sellers.

as most of you know, goodwill is recorded as an intangible asset on the acquiring company’s balance sheet under the long-term assets account. goodwill is considered an intangible (or non-current) asset because it is not a physical asset like buildings or equipment.

under the generally accepted accounting principles (gaap) and the international financial reporting standards (ifrs), companies are required to evaluate the value of goodwill on their financial statements at least once a year and record any impairments.

isolating “personal” goodwill can be highly advantageous for sellers. and this is where you can really be a hero. there are many approaches to calculating goodwill. one reason for this is that goodwill involves factoring in estimates of future cash flows and other considerations that are not known at the time of the acquisition.

while normally this may not be a significant issue, it can become one when accountants look for ways to compare reported assets or net income between different companies (some that have previously acquired other firms and some that have not).

financial conditions are clearly tightening. but, if you have clients thinking about selling their businesses, there’s no reason to rush the transaction. when the future is uncertain, successful entrepreneurs and their advisors are tempted to “get while the getting’s good.” but without taking the time to do the exit planning correctly, your clients could be leaving millions of dollars on the table.

goodwill hunting: three steps

goodwill refers to the value of a business’s intangible assets such as customer or subscriber lists, patient lists and medical records, business, vendor and client relationships, etc. as most of you know, for federal income tax purposes, goodwill must be accounted for in tax filings and may attach to either the business or to the individual.

to make the process easier, here are three key questions to ask your business clients about their intangible assets:

1. do they have goodwill assets and can the goodwill assets can be separated between “corporate goodwill” and “personal goodwill”? corporate goodwill includes existing arrangements with suppliers, customers or others and its anticipated future customer base due to the business operations. personal goodwill is based on the continued presence of a particular individual and may be attributed to the individual’s personal skill, training, relationships, use of the individual’s name in the business name and the owner’s longtime name recognition in a geographic area or industry.

2. if a portion of the business sale price can be allocated to your client as a personal goodwill payment, ask if they’ll continue to work for the business after the sale or will they quit the business immediately. if leaving the business altogether, the amount your client receives for personal goodwill (that is, personally sold by them separately to the buyer) may receive favorable capital gains tax treatment and not be subject to self-employment tax. you must stress to your client the importance of documenting the purchase negotiations, the form and content of the transaction documents, the non-compete agreements between your client and the purchaser (and not between your client and the company they work for) and a qualified appraisal of the goodwill value.

3. if personal goodwill qualifies as a capital asset in the hands of your client who’s leaving the business for good, can your client contribute all or a portion of that asset to a charitable trust or to their children as a family wealth transfer? based on recent tax court decisions and the facts and circumstances of your client’s situation, many tax courts view personal goodwill as an item of property that may be transferred. that’s preferable to viewing it as future earning potential for the individual who creates it, which can’t be transferred. see bross trucking, inc., t.c. memo. 2014-107, and estate of adell, t.c. memo. 2014-155.

 seven reasons to help clients maximize goodwill

1. the sale of goodwill is taxed at capital gains rates, not at ordinary income rates.
2. buyers typically prefer an asset sale over a stock sale (step-up basis, liability issues, etc.).
3. buyers can amortize purchases of goodwill under internal revenue code section 197.
4. for c corporation asset sales, personal goodwill sales aren’t subject to double taxation as they are with enterprise goodwill sales.
5. for s corporation asset sales, personal goodwill proceeds can be allocated differently than the pro-rata distribution of business asset proceeds.
6. there’s no business entity-level gain on the sale of personal goodwill.
7. there’s the opportunity to do individual-level tax planning with discrete asset transaction.

there are many different ways to transfer personal goodwill into a charitable vehicle. it depends on what your client is trying to accomplish. you can transfer the goodwill to your client’s kids if you want. you can sell it to a private placement life insurance policy in which it gets redeemed for cash with no tax liability. we’re doing a lot of goodwill to a charitable trust in which the goodwill gets bought, so 100 percent of the dollars are at work and the client gets a tax deduction for transferring it. essentially, they’re giving away the goodwill, but retaining a lifetime income interest like they are for an appreciated stock.

real world example

i have a client who’s selling the assets inside a c corp. that means all the cash for which he sells the company will be taxed twice – first at the corporate level then at the individual level. however, if we can carve out the personal goodwill he’s built up in the company over the past 50 years, it’s no longer in the c corp. it’s his personal asset outside the company. but most people just allocate goodwill to the company; they don’t parse out the founder/owner’s personal side. it just becomes a purchase of assets that aren’t designated assets. and that’s ridiculous, because so much of the company’s success is based on the founder/owner’s hard work and reputation in the industry.

determining the amount of goodwill

you can hire an appraiser to value the goodwill portion of your client’s company. but, if you can get an offer from an outside buyer in an arm’s-length transaction who’s willing to purchase your client’s company for a set amount, that’s even better. that way, your client meets the “willing-buyer/willing-seller,” test and the irs will have a hard time contesting the $5 million your client claims they received for personal goodwill and its favorable tax treatment. unfortunately, many owners and their advisors don’t understand this concept.

another challenge is that the majority of founder-owned businesses are s corps, and your client generally can’t do much charitable planning with s corps. but if your client carves out the personal goodwill portion of the s corp assets, they can transfer those assets separately to charity and then have the charitable trust sell them. the seller gets a substantial deduction, and it doesn’t cost the buyer anything additional.

some of the best advice i got early in my career was: “take your time, take a breath.” that mindset still applies today. after all, it’s not about how much your clients sell their businesses for; it’s about how much they get to keep after taxes and transactions costs. the price tag itself is just a vanity plate.

if you’re an owner, it’s flattering when someone offers you $20 million for a business you’ve spent a lifetime building. but, if you live in massachusetts or another high tax state and you’re a c corp, how much are you really going to keep? the tax hit alone could be $8 million. that’s where charitable planning comes in for your clients.

leveling the playing field

selling a business is a once-in-a-lifetime event for most owners. but buyers do transactions all the time. so, who do you think has the edge in the negotiation process, whether it’s a strategic buyer or a private equity firm? negotiations are especially one-sided when you consider that owners tend to bring their longtime accountant, attorney and other advisors to the table who have limited transaction experience. it’s like bringing a knife to a gun fight. that’s why you want to bring your best possible team to the table, preferably with each having transaction experience and familiarity with the client’s industry.

differentiate yourself

when you help your client sell their service-related business in a financial and tax-wise way, and maximize personal goodwill allocations, you can truly differentiate yourself from your competitors.

commonly asked questions about goodwill

below are some questions that owners and their advisors, including their cpas, frequently ask me about goodwill:

q: what are the tax implications regarding goodwill?

a: in general, the sale of goodwill is taxed at the capital gains rate, not the ordinary income rate. further, buyers typically prefer asset sales over stock sales due to a step-up in basis, liability issues, etc. also, buyers can amortize purchases of goodwill under internal revenue code section 197.

q: why is personal goodwill so important?

a: for c corporation asset sales, personal goodwill sales aren’t subject to double taxation as they are with corporate goodwill sales. also, for s corporation asset sales, personal goodwill proceeds can be allocated differently than the pro rata distribution of business asset proceeds. in addition, there’s no business entity level gain on the sale of personal goodwill. finally, personal goodwill gives your client and their advisors several opportunities to do individual-level tax planning with a discrete asset transaction.

q: how do i know if my client’s goodwill is really personal?

a: first, be sure there are no non-compete agreements between the owner and the business. once that hurdle is cleared, make sure you can document that your client’s business depends heavily on their personal relationships, industry reputation, skills, know-how, etc. also, confirm that your client is highly involved in day-to-day operations and that their ongoing service and contribution to the business are critical for a successful ownership transition. it also helps if your client’s business is in a regulated, highly technical or specialized industry (that is, professional services) and that their business contracts are terminable at will or tied to the owner. finally, personal goodwill is clearly defensible to the irs if the owner’s departure will have an adverse impact on the business.

q: how do i know if certain intangibles are company goodwill, not personal goodwill?

a: i get this question often from founders and their advisors. it’s considered company goodwill if the business can continue running fine after the founder/owner walks away or takes a very long vacation. here are some other things to look for when it comes to company goodwill:

• there are non-compete agreements in place that effectively prevent the owner from competing with the business after selling.
• there are agreements that convert all “intangible” efforts to a “work for hire” status.
• the business is highly systemized, with well-documented organizational structures, processes and controls.
• the company generates more revenue from the business brand name and sales team than it does from the founder/owner.
• the business has a diversified customer roster and revenue base.
• the founder/owner is “passive” in day-to-day operations and/or the business has a strong management team (separate from the owner).
• business contracts aren’t tied to an individual owner.

q: what’s the best way to value personal goodwill fairly?

a: there are myriad factors that go into valuing personal goodwill. a good starting point is to look at the age and health of the owner as well as the owner’s earning power within the business, the strength of the owner’s vendor and customer relationships, and the owner’s reputation in the industry and local area. it’s also good to look at how long the owner has been involved with the business and the owner’s relative success compared to their industry peers.

the four methods for valuing personal goodwill are:

1. with and without method. compare the company’s value with the owner still working at the business, to the projected valuation after the owner leaves. the difference is the goodwill.
2. top-down method. the residual of purchase price allocation.
3. bottom-up method. business assets vs. personal assets.
4. excess earnings/compensation analysis. the capitalized amount of the owner’s actual earning capacity over fair market value of compensation of an individual with similar skills.

to determine the best approach and methodology for your client’s particular situation, hire a qualified business appraiser who can value personal goodwill based on industry standards and other comparable metrics.

q: what should we do if the irs challenges our goodwill amount?

a: in the irs world, taxpayers are guilty until proven innocent. the irs assumes the goodwill gain occurred at the business entity level and then distributions were made by the business entity to the owner, subject to all tax effects. however, the burden of proof shifts back to the irs if your client can present credible evidence to the contrary. again, that’s why it’s so important to obtain an independent valuation from a qualified appraiser and not just rely on “stated value.”

q: what steps can i take to help my client get the best possible deal after taxes and transaction costs?

a: make sure you and your client take the time to get your ducks in a row. here are five of the most important steps that owners often overlook:

1. don’t rush to meet an arbitrary deadline even if that’s what your bankers and attorneys are pushing for.
2. carefully document the importance and history of the owner’s personal relationships. if nothing else, make sure they don’t create something that’s not there. if the owner didn’t create the key customer relationships, don’t imply that they did. if they were instead the developer of the unique and successful business processes, focus on those. of course, if the seller is a physician and the medical practice is being sold, the seller’s medical skills and personal reputation should be the focus.
3. make sure your client carefully structures their pre-sale corporate documents, that is, shareholder, confidentiality and employment contracts and “founder’s rights” clauses. also, disclose your client’s intent to allocate a portion of the total purchase price to personal goodwill as early in the negotiations as possible with the buyer. if possible, include that intent in the initial letter of intent. personal goodwill shouldn’t be a “tax afterthought.”
4. pay attention to deal structure documents. either have a separate personal goodwill sale agreement or identify the goodwill as a separate asset sale in the asset purchase agreement. make sure to enter into a non-compete agreement between the individual owner and the buyer. if the individual owner is continuing with the business, make sure they enter into an employment agreement with the buyer (that is, convert personal goodwill to enterprise goodwill for the buyer’s benefit).
5. spend sufficient time on the purchase price allocation. consider these important actions:

• • inventory the personal assets separately from the business assets.
  • value the personal goodwill separately from the company goodwill and other business assets.
  • agree to a personal goodwill value and purchase price allocation schedule in advance of the closing.

as a cpa, it’s no longer enough to be a financial historian. make sure the economic substance of your client’s transaction matches the tax impact. having your clients maximize the value of what they net from a sale adds tremendous value to any sales transaction. no one is better equipped to do that than you, the cpa.

i know some accountants get queasy when it comes to intangibles. but personal goodwill is very well codified by the irs with ample case law to substantiate it. don’t let the fear of an audit dissuade you from helping clients in this all-important area. if a willing independent buyer and a willing seller can agree on the goodwill value of a business – say $5 million – and neither with a compunction to buy or sell, that’s the litmus test for the irs. and while your client may no longer be involved in day-to-day operations of the business post-sale, they’ll need plenty of advice about managing their windfall tax efficiently and adapting to their new chapter in life without a business to run (or to use as an atm).

posted on june 15, 2025