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Allocation of Funds for American Business Transactions

Allocation of funds is the breakdown of the purchase money or purchase price for a given American business for sale transaction. This can be applied for business transactions only and business with real estate transactions. The allocation of funds is one important element to close the escrow and transfer ownership. The allocation of funds also has some tax impact for both seller and buyer. Hence, it is always smart to get a CA/CPA/tax consultant opinion before allotting funds. In whatever circumstances, the allocation of funds is between the buyer and seller for the mutual interest and benefit of both.

The most common allocation of funds (Business Only)

  • Equipment Value: This is the amount of money allotted toward the purchase of business equipment. The buyer has to pay sales tax or local tax depending upon the area of purchase. The depreciation time varies from 5 to 12 years depending upon the equipment life. The business state or country also allows the buyer to depreciate amount. At the same time, the seller may be subjected a tax consequence based on his original price and amount of depreciation availed in the past
  • Fixtures Value: This is the amount of money allotted toward the purchase of business equipment. The buyer has to pay sales tax or local tax depending upon the area of purchase. The depreciation time varies from 5 to 12 years depending upon the equipment life and also the location of business state or country allows the buyer to depreciate amount. At a same time the seller may be subjected a tax consequence based on his original price and amount to of depreciation availed in the past.
  • Lease Hold Improvements Value: This is the amount of money allotted toward the purchase of lease hold improvements of the building and business premises. The buyer can avail the depreciation over the period of time of the improvements whereas seller has to pay the capital gain tax based on the original sale price. Mostly, this depreciation amount can avail from 29.5 to 39 years. However, this varies from location to location.
  • Covenant not to compete: This is the money allotted toward a covenant not to compete. This covenant not to compete time period is decided by the buyer and seller based on their mutual understanding and benefit. This also comes under a depreciable category and the depreciation amount varies from location to location. Please talk with a tax consultant before allotting the amount.
  • Licenses and Permits: This is the amount of money allotted for businesses licenses, special licenses, permits, etc. In the business industry, everything has its own value and here the buyer and seller are allocating some amount to satisfy business licenses and permits. There is no special amount set by the government; however, both seller and buyer have to talk with a CPA/tax consultant before allotting money towards the licenses and permits. This allotted money is a non-depreciable amount.
  • Goodwill: This is the amount of money allotted toward goodwill or seller equity. (This is the value or amount paid by the buyer over the fair market value of the net assets when buying or acquiring a business.) This comes under the non-tangible asset category and it could be depreciable. This depreciation life is over 15 years and the seller will come under the capital gain tax and other tax related matters. Hence it is always good idea to talk to a CPA/tax consultant to get their advice before finalizing the allocation of funds.

The most common allocation of funds (Real Estate with Business)

  • Land Value: This is the amount of money allotted toward the purchase of the land. As a prospective buyer, you are going to have property taxes every year based on your allotment and also based on the tax assessor’s assessment values. For the seller, there could be capital gains based on the original price when he bought the property. Neither buyer nor seller can avail the depreciation on the land.
  • Building Value: This is the amount of money allotted toward the purchase of the building. The buyer is going to pay property taxes every year based on your allotment and also based on the tax assessor’s assessment value. The buyer can avail the depreciation over the period of time on the building whereas seller has to pay the capital gain tax based on the original sale price. Mostly this depreciation amount can avail from 29.5 to 39 years; however this varies from location to location.
  • Equipment Value: This is the amount of money allotted for the purchase of business equipment. The buyer has to pay sales tax or local tax depending upon the area of purchase. The depreciation time varies from 5 to 12 years depending upon the equipment life. The business state or country also allows the buyer to depreciate amount. At a same time the seller may be subjected to a tax consequence based on his original price and amount of depreciation availed in the past.
  • Fixtures Value: This is the amount of the money allotted towards the purchase of business equipment. The buyer has to pay sales tax or local tax depending upon the area of purchase. The depreciation time varies from 5 to 12 years depending upon the equipment life and also the location of business state or country allows the buyer to depreciate amount. At a same time the seller may be subjected a tax consequence based on his original price and amount to of depreciation availed in the past.
  • Improvements Value: This is the amount of money allotted for improvements to the building and business premises. The buyer is going to pay property taxes every year based on your allotment and also based on the tax assessor’s assessment value. The buyer can avail the depreciation over the period of time of the improvements whereas the seller has to pay the capital gain tax based on the original sale price. Mostly this depreciation amount can avail from 29.5 to 39 years; however this varies from location to location.
  • Covenant not to compete: This is the money allotted toward a covenant not to compete. This covenant not to compete time period will be decided by the buyer and seller based on their mutual understanding and benefit. This also comes under a depreciable category and the depreciation amount will vary from location to location. Please talk with a tax consultant before allotting the amount.
  • Licenses and Permits: This is the amount of money allotted toward businesses licenses, special licenses, permits, etc. In the business industry, everything has its own value and here the buyer and seller are allocating some amount to satisfy the business license and permit value. There is no special amount set by the government; however, both seller and buyer should talk with a CPA/tax consultant before allotting money towards licenses and permits. This allotted money is a non-depreciable amount.
  • Goodwill: This is the amount of money allotted toward goodwill or seller equity. (This is the value or amount paid by the buyer over the fair market value of the net assets when buying or acquiring a business.) This comes under the non-tangible asset category and it could be depreciable with a depreciation life over 15 years. The seller will come under the capital gain tax and other tax related matters. Hence, it is always a good idea to talk with a CPA/tax consultant to discuss before finalizing the allocation of funds.

These are the common allocations of funds in a business purchase transaction, however, these allocations vary from location to location and items to items . Please check your local area allocations and find out the depreciation, tax consequences, and other related issues. Whatever the circumstance, both buyer and seller have to consult their tax professionals before allocating funds.

If you want to know more about the allocation of funds, identifying the tangible and intangible assets and other tax related questions, or have further questions on tax allocation related issues, please contact us at help@bizworldusa.com or 415-234-8833 and one of our approved third-party business tax professionals will contact you.

Here is the model form you can use for the allocation of funds.