Royalties

[mvp2885]

Hello everyone,

I have a question about royalties. I am not a CPA or accountant, so maybe someone with more experience can shed light on this. I do tax prep, I'm an EA, but royalties is a subject or something that I haven't seen much or at all in previous taxes I've done. I have an opportunity to buy out a client list from my previous tax prep job (employer). He has about 1,000 clients. He wants me to buy out the list, take over, and pay rent at his location. However, his partner mentioned that he might want me to pay royalties as well. Can someone confirm that buying a client list involves royalty payments or if the IRS classifies a client list to be considered intellectual property or a trade secret where royalty payments can be asked for? Thank you guys for the confirmation, I look forward to a reply.

[spanel]

A Client list is usually Intangible Asset 197. Pg 9-12, 9-13, deprecated over 15 years.

The royalty thing is more like a he also wants a cut of the profit in addition to the client list. That would be a separate issue.

Chris

[Dusty2004]

Most sales of tax preparation business are paid over 3 - 5 years at a rate of 75% - 125% of gross income. That does not include the assets of the business just the client list and the associated data files.

[Lion]

A couple of my friends have sold in the last few years. They worked for 2-3 years to help the transition and receive a percentage of the billings over 2-5 years, depending on the deal. Plus any initial payment and any other negotiated payments in their contracts for assets, lease, etc. My friends the sellers liked the structure of the deals that let them phase out gradually from working, insure more clients transitioned to the new firm, and received payments/royalties that they could help increase by their efforts during the transition. The buyers liked the help transitioning clients to them, knowledgeable temporary staff, and the payments over time.

Figure out what you want from the seller, prioritize, and negotiate a deal that makes all parties happy.

[Burke]

Figure out what you want from the seller, prioritize, and negotiate a deal that makes all parties happy.

In writing....

[JoshinNC]

The correct terminology is “earn out”, not royalties. It would make the sale an installment sale of a Section 197 asset. TTB covers that....

[Burke]

An earn out transaction seems to be predicated on the purchased business meeting certain levels or financial goals for it to be invoked. Lets assume the seller does not work for the new buyer but retires outright. If the buyer is going to pay a certain percentage of the seller's clients' return fees to the seller, is that treated as compensation?? What if there is no upfront payment for the client list (assuming no physical assets involved), and this is the only form of payment? The general consensus here is that whatever form it takes, it is not royalties.