The buyer has agreed to our target valuation but is demanding we structure the transaction as an asset sale while allocating eighty percent of the purchase price to ordinary income assets like inventory and equipment recapture. How do we negotiate the purchase price allocation terms before signing the LOI to protect our net cash at close?

Question

Tyler Smith · Accepted Answer

Accepting a high headline enterprise valuation is meaningless if you lose a massive chunk of it to ordinary income taxes at closing. In an asset sale, the buyer wants to allocate as much of the purchase price as possible to fast-depreciating assets, which gives them a tax shield. For you, the seller, this triggers depreciation recapture and high ordinary income tax rates instead of low capital gains rates.

To prevent this, you must negotiate the purchase price allocation terms before signing the Letter of Intent. Do not accept a generic clause stating that the allocation will be agreed upon mutually post-signing. By then, you have lost all your leverage.

Insist on attaching an agreed-upon draft of IRS Form 8594 directly to the LOI. Push for the vast majority of the transaction value to be allocated to Class VII assets, which is goodwill, and Class VI assets, which include intangible property. These classes qualify for capital gains treatment.

Use your Step by Step Exit assessments and financial records to prove the value of your intangible assets, such as your proprietary operating systems and customer contracts. If the buyer refuses to budge on the asset structure, you must negotiate a purchase price adjustment to offset the tax differential. Your objective is to maximize your net walk-away cash, not the paper valuation.