In the past, I've written about the importance of having all financial records up to date and accurate when preparing to sell a business. For obvious reasons, it makes sense to have everything to properly represent what is being sold. Otherwise, it would be like trying to sell a truck without disclosing its color, condition or mileage.
Unfortunately, business brokers will come across clients who are very successful in running a business but struggle while keeping organized records. With a little guidance and time, situations like this can be easily corrected.
However, every now and then, we will come across a seller who is deliberately understating their income. Recently, I spent some time with an owner who might not have been filing accurate tax returns. Maybe he was filing accurate tax returns yet was trying to deceive me. Or maybe he wasn't filing accurate returns and was being truthful to me?
Either way the effect is the same. Bridge of trust between a seller and a buyer in any business transaction is paramount. Sellers like this blow up that bridge even before the buyer tries to get across it. Real buyers want real facts and figures.
If the seller has already shown that they are dishonest with their taxes, what assurance does the buyer have that the seller won't be dishonest a second time with the buyer?
With reports of accounting transgressions in corporate America seemingly daily, local business buyers are more cautious than ever before. What the seller needs to do is be honest. Be honest with himself, be honest with the government, and with the buyer.
The result is that the seller may have a few more taxes to pay during the course of the businesses operation, but the value of the business will increase dramatically by having records that reflect reality. Now, I'm not an accountant, but if a seller is in a cash business and understated his income by $50,000, he might save approximately $50,000 in income taxes.
As an example, let's say if a business were to sell for a 2.7 multiplier of its net income, the sales price for the business could be as much as $135,000 less than what it would have been if everything had been documented accurately.
Hence, by saving $15,000 the seller may have just cost himself $120,000. There's an old saying about not being able to have your cake and eat it too, which I never understood, now I do.