Kristin’s Construction Corner – Succession Planning: Tips for the Buyer

Transcript: 

Hi contractors! Kristen Bailey here, CPA and certified construction industry financial professional at KatzAbosch, a CPA and consulting firm that specializes in construction contractors. This spring our group is focusing on succession planning, and this segment focuses on tips for the buyer. So, if you’re fortunate enough to be in a position where you’re purchasing a construction company, there’s two main ways you can do it. You can purchase the assets of the company, or you can purchase the stock of the company. And, as a buyer, you want to try to negotiate an asset price. The seller is going to try to negotiate a stock purchase, but purchasing the assets will allow you to depreciate part of your purchase price. You might even be able to take 100% bonus or section 179 on part of the purchase price.  To accelerate your tax benefit, you will also probably need to assume the related liabilities, equipment loans, office leases, but by doing an asset purchase, you’re not buying any unknown skeletons in the company’s closet. Now, when you’re assuming these leases and liabilities, you want to make sure you have a good handle on the terms and conditions, especially any loans or leases with the previous owner. It’s very common for owners of contractors to also own the office space that they operate in, so if your lease is now with the previous owner, you just want to make sure that you’re not locked into a 10-year lease with escalating rent terms unknowingly.  You also want to consider the right of first refusal on the building. That way the previous owner can’t sell the building out from under you.  

When purchasing, there’s two main financing options. You have bank financing or seller financing. And the previous owner might be more interested than you think in taking back a note instead of cash because there are some tax benefits for them, and it’s less costly for you. So don’t discount that option.  Another popular transfer option if you’re an employee is a stock bonus. While no cash is transferred, this does create a taxable event for the employee. So, if 10% of the company is transferred via a stock bonus, then 10% of the value of the company will be added to your w-2 that year and tax will be due on that amount. Many companies will gross up the stock bonus to pay a portion of the taxes but you want to make sure this is discussed in advance of the stock bonus. For example, if your bonus is 10% of a company and that 10% is valued at $100,000, you could owe up to $40,000 in tax, but since you didn’t actually receive a hundred thousand dollars in cash, you might not have the cash flow to pay your taxes. 

As you transition to owner, various other financial responsibilities will be transferred to you like guaranteeing the debt and indemnifying the bonding company. Many lines of credit and bonding programs require personal guarantees from the owner, and it’s not uncommon for the owner to list their personal residence as collateral. Now, these terms are negotiable but doing so frequently requires additional working capital to be held in the company.  Here in Baltimore, relationships are a key part of doing business. As you transition to owner, you want to start or continue your relationships with your banker, bonding agent, CPA, attorney, and other professional services. Character is one of the three c’s considered in bond underwriting. 

For more helpful information on bonding in the post-pandemic environment and to view past conversations on transitioning your construction company, please visit our website below.

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