Tom & Mick – Using the Vendor Option
Tom and Mick’s S-corporation was being purchased by a much larger entity for approximately $50 million. The two largest shareholders represented about 65% of the total shares in a relationship of 45% to 20%. Other shareholders held between 4 and 12% each. All were looking at 25% capital gains tax on approximately 75% of sale price. KPMG New York represented Buyers targeting rollups for a public offering in 3 to 5 years.
The S-corporation’s two largest shareholders were married and had split their ownership with irrevocable trusts so no portion of the gains totaled more than $5,000,000 per person, including husband, wife and trust beneficiaries. Separate single member LLCs requested trusted management of cash assets. Some smaller shareholders chose not to participate and to recognize their capital gains. One shareholder recognized substantial gains against current losses and deferred the remainder of its gains.
CSS stepped up outside basis for the S-Corp stock with a promissory note. After sale of S-Corp assets to a third party for cash, the company was liquidated. Outside basis cancelled inside gains and almost 100% of the funds were available for reinvestment.
Outside basis further adjusted for earn-outs achieved of $5 million a year later, and $8 million two years thereafter. Deferral of gain allowed $250,000 of tax-earmarked principal per $1 million of capital gain to continue appreciating and earning income year after year. The additional negotiating and credit leverage of the extra $6,100,000 for reinvestment was substantial for better investment rates.
The extra $6,000,000 generates a guaranteed 5% or $300,000 of spendable income per year that would not exist without CSS’s deferral, in addition to higher returns when earned.