Buying an existing business - Segment 3
Host: Welcome to the segment called Buying an existing business, part of the Reporting Business Income and Expenses video.
With me is James Lee. Welcome James.
Can you tell us what is important for small business owners to know if they're purchasing someone else's business?
Subject matter expert: If you find yourself in the situation where you are buying an existing business, you generally pay a set amount for the entire business. In some cases, the sale agreement sets out a price for each asset, a value for the inventory of the company and, if applicable, an amount that you can attribute to goodwill.
If the individual asset prices are set out in the sale agreement, and the prices are reasonable, then you should use these prices to claim capital cost allowance.
If the individual asset prices are not set out in the contract, you have to determine how much of the purchase price you should attribute to each asset, how much to inventory, and how much, if any, to goodwill.
The total of these amounts should be the same as the amount the seller determined when reporting the sale.
Host: James, I don't quite understand what goodwill is. Can you explain that for us?
Subject matter expert: Yes Janice, goodwill is what you paid for the reputation of the business, or for favorable business, or customer lists.
Let's have a look at an example.
You buy an existing book store and the purchase price is $500,000. There is no breakdown in the sales agreement for what the building, inventory and fixtures are worth individually. You need to value these items separately in order to expense them correctly.
So let's say,
- You have the building and property appraised and it is determined that the value of the building and property is $250,000.
- You take the inventory of the books in the store and determine that the value of the book inventory is $150,000.
- You research the value of the fixtures; such as the shelving, cash register, tables and chairs and find they are worth $50,000.
When you total this, the value of the assets and inventory you bought is $450,000. This means that you can attribute $50,000 as goodwill.
Host: Ok, I see, so the goodwill is the difference between the value of the assets and the price the owner paid to buy the business?
Subject matter expert: Yes, exactly.
Host: Thank you James.
This concludes the segment called Buying an existing business, part of the CRA's Reporting Business Income and Expenses video.
Thank you for watching.
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