Business sale earnout arrangements back in spotlight

The Coalition government has decided that it will proceed with a long-standing proposal to improve the current tax treatment of earnout arrangements.

Earnout arrangements are a common way of structuring the sale of a business. Under a standard earnout arrangement, business assets are sold for a lump sum plus a right to further payments that are contingent on the performance of the business for a specified period following the sale.

The earnout right typically reflects the uncertainty surrounding profitability, the value of goodwill and cash flow projections. Under the current rules, the calculation of the tax on the sale is based on the lump sum as well as the estimated value of the earnout right, which means the seller could end up paying tax on an amount not yet received. The proposed changes aim to resolve this, as well as other tax issues.

The government has indicated that it intends to pass legislation to implement this proposal during 2014.

TIP: Although the tax changes would not apply until changes to the law are formally passed, the ATO has released details of administrative treatment that allows a transitional approach for certain cases. Contact our office for further details.