Paying Taxes on Exit Proceeds - An Alternate Strategy

Sold your company? Here’s another option for paying taxes owed.

If you’ve sold your company, you’re probably facing a hefty tax bill. While the simplest and most common method of paying taxes is to use proceeds from the sale, there is another option.

If you plan to invest a substantial amount of the sale proceeds into marketable securities, using a securities based loan (SBL) to pay taxes could allow you to keep more of your money working for you.

A security based loan is analogous to a home equity line of credit, but it’s secured by investments like stocks, bonds, or mutual funds instead of a home. Unlike margin loans, which are also loans against the value of an investment portfolio, SBLs can’t be used to purchase additional securities. SBL funds can however be used to pay taxes, purchase real estate, or even fund retirement spending. SBLs are also generally available at lower interest rates than traditional loan products.

Let’s consider the hypothetical example of two co-founders who sold their company for $50 million, splitting the proceeds of $25 million each evenly between them. If each founder is liable for 20% Federal and 10% State tax, each will have to pay taxes of $7.5 million.

Founder A sets aside his $7.5 million in cash and pays the bill when due, leaving him with $17.5 million to invest. He invests in a balanced portfolio which he expects will provide him with 3% annual income in addition to average annual growth of an additional 3% for a total expected return of 6%. In dollar terms, he’ll expect to receive an average income of $525,000 with average growth of $525,000 for an average annual total return of $1,050,000.

Founder B invests the entire $25 million in the same balanced portfolio as Founder A and has the same return expectations. She then secures a $7.5 million portfolio loan at an interest rate of 2% which she uses to pay the taxes. She expects to receive $750,000 in annual income and $750,000 in average annual growth. She also expects to pay $150,000 in interest on the money she borrowed for taxes, providing her with an average annual total return of $1,350,000, $300,000 more than Founder A.

Using an SBL to pay taxes on the sale of a company can be an effective strategy to optimize return, but it’s certainly not right for everyone. Consult with you wealth manager, tax and legal advisors to make sure your making the best decisions with your money.

For more details on this and other wealth optimization strategies please contact me at Jason.saunders@raymondjames.com or any member of the SKA Wealth team.

A Securities Based Line of Credit may not be suitable for all clients. Borrowing on securities based lending products and using securities as collateral may involve a high degree of risk. Market conditions can magnify any potential for loss. If the market turns against the client, he or she may be required to deposit additional securities and/or cash in the account(s) or pay down the loan. The securities in the Pledged Account(s) may be sold to meet the Collateral Call, and the firm can sell the client's securities without contacting them. The interest rates charged are determined by the market value of pledged assets and the net value of the client's Capital Access account. Examples provided are hypothetical in nature, do not reflect actual investment results and are not guarantees of future results.