How is valuation of goodwill determined?
Some states say personal goodwill is not separable from business goodwill. For personal goodwill, and usually for professionals, courts look at the person’s age, health, ability to demonstrate past earnings and reputation for judgment, skill and knowledge. Those factors are seen frequently in case law. They would also compare personal success to others in his or her field depending on the type of practice and how long he or she has been in business.
Take the solo doctor, for example. He or she could easily say, ‘These people are coming here because of me, not because of some business value. They are being referred to me because of my skills.’
How can appraisers separate personal and enterprise/business goodwill?
It’s a difficult concept, so techniques and methods are all over the board. Some appraisers will just offer their professional opinion without a lot of calculations. Others will compute total goodwill and take a percentage as personal.
Most appraisers look at elements that are not connected to the business. It’s easier to see the difference between personal and business goodwill in professional fields like a CPA, attorney or doctor. It’s more difficult in commercial business, with businesses that have a board of directors, president and a brand name. State courts don’t lean too much toward those businesses. They see them less and less as having separable personal goodwill.
How does goodwill affect the value of a business?
Sometimes during the sale of businesses, there may be intangible, valuable parts of the business that the seller can’t transfer. In other words, if I were to sell my business to somebody new, not all my clients would accept the new owner. To the extent that some clients would want to stay with me and wouldn’t transfer to the buyer, that could be considered part of my personal goodwill.
We’ve seen some tax planners separate personal goodwill in the sale of a business to try to capture long-term capital gain tax rates rather than ordinary income rates.
A prospective purchaser might say they’re only going to buy the parts of the business from which they can get repeat customers. If the seller has repeat customers the purchaser would lose to the seller, the purchaser likely won’t want to move forward.
Richard M. Squar, CPA, MBA-Tax, CVA, ABV, Certified in Financial Forensics, is the tax & litigation support director of Glenn M. Gelman & Associates, Certified Public Accountants and Business Consultants. Reach him at (714) 667-2600 or [email protected] or visit www.gmgcpa.com.
