Building Your Business Business Taxes Capital Gains Taxes on the Sale of a Business By Jean Murray Updated on November 30, 2022 Reviewed by David Kindness Fact checked by David Rubin Sponsored by What's this? & In This Article View All In This Article What are Capital Gains and Losses?? How Capital Gains Tax Works Business Assets in a Business Sale Before You Sell Your Business Frequently Asked Questions (FAQs) Photo: Jose Luis Pelaez Inc / Getty Images Capital gains are a different type of income from ordinary income on business profits. Taxes on capital gains taxes come into play when you sell the business because capital assets are being sold. Learn what you need to know about the capital gains tax on its assets before you sell your business. Key Takeaways A capital business asset is used for investment or to earn a profit, and it can be sold for a gain or a loss.Gains and losses are either short term or long term, depending on how long you hold or own the assets. Long-term gains are usually taxed at a more favorable rate.The sale of a business for a lump sum is considered to be a sale of each individual asset rather than a single asset, according to the IRS.Capital gains tax applies to the sales price less your basis or investment in the asset.The rules are somewhat different for corporations and partnerships. What Are Capital Gains (and Losses)? A capital asset is anything of value that your business owns, such as buildings, machinery, equipment, and vehicles. It can be used for investment or to make a profit. You can sell a capital asset at a gain or loss. The difference between the original cost (called the basis) and the sales price is either a capital gain or a capital loss. You may add to the basis of business equipment by upgrading the equipment, or you can reduce its basis by taking certain deductions and by depreciation. The cost at purchase plus these changes create an adjusted basis at the time you sell the equipment. The difference in this adjusted basis and the sales price is either a capital gain or a capital loss. How the Capital Gains Tax Works Capital gains tax is charged on all capital gains. These gains are taxed differently from regular income, depending on how long they're held. Your capital gain is long term if you own the asset for more than a year before you sell it. It's short term if you hold it for one year or less. You must separate short-term and long-term capital gains on all the assets you sell during the year to get a net short-term and/or net long-term capital gain (or loss) that you can use to calculate your capital gains tax rate. A net short-term capital gain is usually taxed as ordinary income, based on your tax rate. A net long-term capital gain is taxed is usually no higher than 15% for most taxpayers, but there are some exceptions for high earners. Selling Business Assets in the Sale of a Business Here's where it gets complicated: You sell many different types of assets when you sell your business, and each is treated as being sold separately to figure the capital gain or loss you incur. Note The IRS indicates that "the sale of a trade or business for a lump sum is considered a sale of each individual asset rather than of a single asset." The process of selling business assets is complicated because each type of business asset is handled differently. For example, property for sale to customers, such as inventory, is handled differently from real property, such as land and buildings. Each asset must also be looked at to see if it's a short-term or a long-term capital gain/loss. The next step after the individual assets have been analyzed and capital gains and losses have been determined is to allocate the price of the business to each business asset transferred from the seller to the buyer. The term "consideration" means what each party gives in exchange. The buyer's consideration is the cost of the assets being purchased. The seller's consideration is the amount realized (money plus the fair market value of property received) from the sale of assets. This process is used to figure out how much of the consideration is for business goodwill and other intangible property. Goodwill is taxed differently when selling a business. Example of Capital Gains in a Business Sale Let's say the purchase price of a small business is $500,000. The fair market value of all the assets being sold as part of the package is $350,000, including individual assets and the capital gain or loss on each less the fair market value of liabilities at $100,000, which equals $50,000: $500,000 less $350,000 less $100,000. The difference of $50,000 is for goodwill and other intangible assets. Note This process of analyzing assets and determining how gains and losses are taxed is a job for a business appraiser and a tax expert. What might seem like a simple business task can become complicated quickly. Selling a Corporation or Partnership The interest or investment of an owner in a partnership or corporation is treated as a capital asset when it's sold by the owner. The capital gain of a partner or a shareholder is not the capital gain of the business. It's the gain or loss to the owner. For a Partner in a Partnership Capital gains taxes may be due on any gain received from the sale of the individual's partnership interest or from the sale of the partnership as a whole. Using the example above, a two-person partnership might split their share of the proceeds from the sale of the partnership 50/50. Each partner might have capital gains of $25,000 in this case. For an Owner of a Corporation Owners of a corporation are shareholders. They have capital gains or losses when they sell their shares, not necessarily when the business is sold. Tips for Selling Your Small Business You'll want to take steps to minimize your capital gains and to gather all the information you need to prepare your tax return or to turn over to your accountant or other tax professional. Gather Information on Your Assets Find all the records relating to your purchase and improvement of each business asset. Include costs to purchase the asset and set it up (like training costs) and costs for improvements (but not maintenance). The higher the basis for each asset, the lower your gain when you sell it. Take Inventory Take inventory so you know the value of each asset if you have products, parts, or materials for products you sell. Get a Business Valuation Find an appraiser and get a valuation of your business, including the value of all assets. This will help you get to a realistic selling price and to estimate your possible capital gains tax. Note You need to know about how capital gains tax works, but it's just as important to start planning for selling your business with the help of tax and legal advisors to minimize capital gains. Frequently Asked Questions (FAQs) How do I declare capital gains taxes on the sale of a business? You'll receive tax forms after the end of the year during which your business is sold. The forms will include information about the short-term and long-term gains or losses from your share of the business sale. Add up all your gains (or losses) for the year on IRS Form 8949, then transfer the information to Schedule D Capital Gains and Losses. Include this information on your tax return. Don't try to do this yourself. Get help from a tax professional. Is there a way to minimize or offset the capital gains tax I must pay for selling my business? One way to postpone or offset capital gains on the sale of your business is by reinvesting the proceeds in a tax-qualified Opportunity Zone. Your investment in an Opportunity Zone must be made within 180 days of the sale and it must be done through a Qualified Opportunity Fund. These funds invest in economically distressed communities in the U.S. Where can I get more information on capital gains in the sale of my business? These IRS publications can provide more details regarding the sale of your business:IRS Publication 544 for tax implications on the sale of business assetsIRS Publication 541 Partnerships for capital gains on partnership sharesIRS Publication 550 Investment Income and Expenses for capital gains for corporate shareholders Was this page helpful? Thanks for your feedback! Tell us why! Other Submit Sources The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy. Internal Revenue Service. "Topic No. 409 Capital Gains and Losses." Internal Revenue Service. "Topic No. 703 Basis of Assets." Internal Revenue Service. "Sale of a Business." Internal Revenue Service. "Publication 544 Sales and Other Dispositions of Assets," Pages 26-28. Internal Revenue Service. "Publication 544 Sales and Other Dispositions of Assets," Pages 22-23. Internal Revenue Service. "Sale of a Partnership Interest," Page 3. Internal Revenue Service. "Publication 541 Partnerships," Page 5. Internal Revenue Service. "Opportunity Zones Frequently Asked Questions."