Going concern value is an important concept in accounting, business valuation, and tax law that recognizes a business’s worth beyond its physical assets like equipment, inventory, and real estate. It reflects the value of a business expected to continue its operations smoothly and generate future earnings, encompassing intangible assets such as customer relationships, brand reputation, and organizational know-how.
Understanding Going Concern Value
The term “going concern” originates from accounting principles where businesses are presumed to operate indefinitely unless clear evidence suggests otherwise. This assumption impacts how assets and liabilities are recorded and how a business’s worth is assessed. Going concern value is essentially the premium a buyer is willing to pay for a business as a functioning entity rather than for its parts alone.
Why the IRS Cares About Going Concern Value
For tax purposes, the Internal Revenue Service (IRS) considers going concern value to accurately assess the fair market value of a business during sales, transfers, and estate or gift tax reporting. This ensures the correct tax liabilities are applied, particularly for capital gains tax when a business is sold and for estate tax when a business is inherited.
The IRS acknowledges that a business generating steady profits and maintaining customer loyalty is worth more than just its physical assets. This additional value includes:
- Operational infrastructure
- Established customer base
- Brand reputation
- Employee expertise
Understanding this distinction helps taxpayers avoid undervaluation or overvaluation, which can trigger audits or penalties.
Application of Going Concern Value in Tax Situations
- Business Sales and Acquisitions: Buyers often pay a premium over the asset value reflecting the ongoing nature of business operations.
- Estate and Gift Tax Valuations: When passing a business through inheritance or gifting, going concern value determines the rightful tax amount on the transfer.
- Depreciation and Amortization: Intangible assets contributing to going concern value may be amortized differently for tax purposes.
Real-World Example
Consider a bakery with ovens, mixers, and raw materials valued at $100,000. If sold as equipment only, a buyer pays $100,000. However, if sold as an operating business that generates ongoing revenue, brand loyalty, and a solid customer base, the total value might be $150,000 or more. The extra $50,000 represents going concern value, which includes intangible benefits the buyer gains by acquiring a running business.
Who Should Understand Going Concern Value?
Anyone involved in buying, selling, inheriting, or gifting a business should understand going concern value, including business owners, accountants, tax professionals, and estate planners. Correct valuation helps in tax compliance and prevents disputes with the IRS.
Professional Valuation and Record-Keeping
Getting a professional business valuation is essential. Experts use market data, income approaches, and asset-based methods to quantify going concern value. Keeping thorough records of business operations, contracts, customer details, and financial statements supports this valuation.
Common Misconceptions
- The assumption that business value equals asset value, ignoring the importance of continued operations.
- Confusing going concern value with goodwill; goodwill is a component but going concern value also includes operational capacity.
- Overlooking going concern value during tax reporting can lead to IRS challenges.
Frequently Asked Questions
Q: Is going concern value always positive?
A: Usually, if the business is operating profitably. If a business is failing or planned for closure, going concern value may be minimal or nonexistent.
Q: How does going concern value differ from goodwill?
A: Goodwill refers specifically to intangible benefits like brand reputation, customer loyalty, and business relationships. Going concern value includes goodwill plus other operational factors contributing to a business’s ongoing earning capacity.
Q: Does the IRS require a going concern value appraisal?
A: In many cases involving business sales, estates, or gifts, the IRS expects valuations that include going concern value to ensure fair tax assessment, though requirements depend on the specific situation.
Additional Resources
For more on business valuation, tax implications, and IRS guidelines, visit IRS.gov’s Business Valuations and FinHelp.io’s glossary on Goodwill and Business Financial Evaluation.
Understanding going concern value ensures accurate business valuation, compliance with tax rules, and smoother transactions during business ownership changes.