As a business owner, why would you want or need a business valuation report prepared by a certified business appraiser? By preparing a report, the appraiser is giving you a professional opinion as to what a willing buyer, with all relevant facts, would consider the value of the business. The true market value will only be determined when the business is sold to an independent buyer, but the appraisal process can help the owner determine the value for a particular purpose. Even if you’re not selling your business any time soon, here are four of the most relevant and common reasons to have a business valuation.
Buy-sell agreements usually call for a value, which is best determined by a formal business appraisal. The appraised value of the business may not be what the current owners are expecting, especially if the agreement was prepared a long time ago. We have seen many cases where the agreement calls for a formal business appraisal, with specific adjustments then made to that value. This value should be reviewed from time to time to ensure the anticipated buy-out value is what the owners, or their beneficiaries, are expecting. Any adjustments should also be reviewed to determine current relevance.
Business transition and personal reasons
We find that many owners either do not know what their business is worth, or they have an idea but need to confirm that their estimation of value is reasonable. The ultimate price paid for a business is determined by what the business is worth at a particular time to a particular buyer, but a business valuation can help estimate its value. This information is helpful to the current owner ahead of time in order to address any operational weaknesses, competitor advantages or other aspects of the business that potentially decrease its value at sale. By addressing those issues over time, you may potentially increase the value at the time of sale.
Personally, owners may be counting on a certain value of the business to support estate planning. By knowing the estimation of value, their expectations are closer to reality. It not only helps the owner’s advisors with planning, it also can support real conversations with family members or potential internal buyers regarding the timing of a sale down the road.
Estate tax purposes
Unfortunately, many owners don’t do this planning. We have worked with businesses and their families after the unexpected death of an owner. The ownership interest needs to be valued to calculate any federal and/or state taxes due. Even if no estate taxes are due, a valuation report should be prepared to ensure proper funding of trusts or distributions to beneficiaries. In addition, the valuation will establish a basis in the business which will be needed by the beneficiaries. They will use this value for an eventual sale of the business themselves or, depending on the circumstances, for their own personal income taxes.
Gift tax purposes
Gifting is also an important part of business succession planning or simply to reduce the overall value of an individual’s estate. When a business interest is gifted, the IRS requires a gift tax return to be filed, reporting the value of the gift and disclosing the methodology used for that value. They will also require a disclosure of any valuation discounts taken to establish the value. Once a gift tax return is filed with the IRS, they generally have three years to question the value (a statute of limitations) used by auditing the gift tax return and documentation used to prepare it. Once the three years have passed, they generally are not able to question the value of the gift as long as adequate disclosure was made to the IRS with the filed gift tax return. Without adequate disclosure, no statute of limitations exists and the IRS can question the value of the gift at any time in the future.
A formal valuation report, prepared by a professional, should meet those requirements. Gifting less than 100 percent of a business could entitle the value to discounts, as mentioned above. Discounts for Lack of Marketability and Control should be important factors a valuation report addresses. These discounts could reduce the value of the gift and assist in the planning for transferring assets from the owner to others. The benefit of these potential discounts for tax purposes should not be overlooked.
At Markowitz, Fenelon and Bank, LLP, we have three team members who are specifically tasked with our business valuation practice: John Larkin, Lynn Eckhardt and Amanda Sexton. All three of us are CPAs and ABVs. The ABV (Accredited in Business Valuation) credential was created by the American Institute of Certified Public Accountants (AICPA) and given only to CPAs who have demonstrated extensive knowledge, skill and expertise within the business valuation area. As a firm we have extensive years of experience in this field. This expertise in our firm adds greater value to our Estate, Gift and Trust team as well as our overall ability to service our clients at the highest level.
Please do not hesitate to contact us with any questions about determining the value of your business for operational planning or estate needs.
John Larkin, CPA, ABV, has been in the accounting field for nearly 30 years. He has extensive experience in income tax planning for individuals and closely held businesses. John provides tax consulting services in the areas of estate and gift tax preparation and business valuations. He is also experienced in providing accounting and business advisory services to the rapidly growing agriculture industry, including nurseries and wineries.