The buyer is offering a higher headline enterprise value if we agree to an asset purchase rather than a stock purchase, but our CPA warns us about tax drag. How do we calculate the tax gross-up needed to make an asset deal worthwhile?

Question

Tyler Smith · Accepted Answer

Buyers overwhelmingly prefer asset purchases because they receive a step-up in the tax basis of the assets, allowing them to depreciate those assets and shield future earnings from taxes. They also avoid inheriting unknown historical liabilities. For you as the seller, an asset sale often triggers devastating ordinary income tax rates and depreciation recapture.

If you operate as a C corporation, an asset sale produces double taxation: first at the corporate level, and second when cash distributions flow to shareholders. If you operate as an S corporation or LLC, you avoid corporate taxes, but the allocation of the purchase price can still reclassify millions of dollars from favorable capital gains rates into high ordinary income rates.

To determine if the buyer's higher headline offer actually leaves you with more cash at close, run a net proceeds calculation before signing the LOI. Have your transaction CPA build a detailed waterfall:

- Classify asset values across receivables, inventory, depreciable equipment, and goodwill.
- Calculate the tax hit on depreciation recapture under Section 1245 at ordinary rates.
- Determine the federal, state, and net investment income tax liability under both stock and asset structures.
- Subtract total liabilities, closing costs, and tax payments from the headline price.

If the asset sale creates an extra million dollars in tax liability, demand a formal tax gross-up clause. Present the schedule to the buyer and require them to increase the headline purchase price dollar-for-dollar to offset the tax differential, or structure the transaction under an alternative election like Section 338(h)(10) with full compensation for your tax leakage.