Purchase of Equity Interests - Partnership

[ZoomnFinancial]

Client of mine is purchasing his fathers equity interest in the partnership they had formed. Father started the business a number of years ago and then included son as partner in 2014. Starting 1/1/2015 son (my client) purchased the business for $200,000 over 10 years via a promissory note (do have a written agreement). Value of business was based on average "sales" over the last 5 years.

• No valuation of the company was done outside of analyzing the sales over the last couple years to determine a purchase price of $200k. 
• No real physical assets and no liabilities. Business focuses on specialized training and facilitation to conduct root cause investigation. The "concept", powerpoint slides, former customer list were the main asset being purchased.
• Son still uses father as a consultant when he is over booked or needs coverage (maternity leave). Issued a 1099 for his time that was worked. 

Any assistance would be grateful. This was just sprung on me and never had dealt with this since undergrad. 

Happy New Year. 

[ZoomnFinancial]

Got some new information on the transaction... 

The partnership that existed with father & son was really dissolved on 12/31/2014. My client (son) really is only purchasing intellectual property (past customer list and power point / idea) and started his own LLC (if he would have asked me he would be set up as a S-Corp for tax savings). Father started his own LLC for consulting work.. 

So in the end the agreement for $200k was to purchase the intellectual property and not buying out the other partner (even though one could argue that it was buying him out in a way). 

From my conversations with client I don't think his dads accountant knows how things were handled. We have passed the father a 1099 for the consulting work but father and his accountant haven't asked about the $20k that he was paid in 2015. 

 

[jklcpa]

Installment sale by father, installment purchase by the son. Is there a rate of interest stated in the note?  If not, you still have to account for unstated interest as part of the payments, and son's total basis in the property being purchased doesn't include the interest, only the principal paid.

[ZoomnFinancial]

Judy - Thanks. There was no rate of interest stated on the note. Just says principal sum of $200k payable in equal quarterly installments. Do we add the principal payments onto the 1099? Father has had the business for 10+ years. I can't imagine he has much of a cost basis since it's really a service company.

I will continue to research. Love when I am brought into the equation after the fact.  

[jklcpa]

Pub 537 should get you started. Look at the section "Unstated Interest and Original Issue Discount" that has the rules for both the buyer and the seller in that regard.

[kcjenkins]

See Pub  537 [You may want to print out part of it to give to the clients]

If an installment sale contract does not provide for adequate stated interest, part of the stated principal amount of the contract may be recharacterized as interest. If section 483 applies to the contract, this interest is called unstated interest.  

[Richcpaman]

Zoom:

Have you read the written agreement?

You can change the your clients LLC to an S-Corp for 2016 if you want.

Issue a 1099-B for $20k paid to Father.  Or do an amortization table and use the IRS LT Rate, and allocate.

Your client can amortize the intangible that they bought.

Lots more to look into in this, but those are the basics.

Rich

 

 

 

[ZoomnFinancial]

Thanks all for the information. I'm continuing my digging. 

I have read the promissory note agreement between father & son. It's very basic basic terms with no interest rates. Only other part is in regards to default / bankruptcy and that the father can take the company back if such happens.  

There is a section that references the Membership Interest Purchase Agreement so I have requested that from my client.