For Family Business Owners Going to Market
Sell-Side Tax Due Diligence
Find what the buyer will find, before they find it. Sell-side tax due diligence surfaces exposures while you still control the timeline, instead of letting them be discovered in a way that lets the buyer cut your price or pile up escrow.
What the Buyer Will Look For
Buyer-side tax diligence is a structured, repeatable process. The buyer and their advisors are running the same playbook on every acquisition. These are the issues that come up in nearly every small business deal and where most of the price reductions and escrow holdbacks get justified.
Unfiled or sloppy state tax returns
Sales and use tax exposure across states is the single most common surprise in small business deals. Wayfair created economic nexus in nearly every state, and most family businesses have at least one or two states where they crossed thresholds and never registered. A buyer's accountant will find this and either reduce the price or pile escrow until you fix it.
Reasonable compensation arguments
If you run an S-Corp and have been paying yourself a low salary with high distributions, the buyer will model the IRS's reasonable comp argument and price in a payroll-tax-plus-penalty exposure. I surface this and either get it fixed before market or build a defensible record so the issue does not survive due diligence.
ERC and other COVID-era credit positions
If your business claimed the Employee Retention Credit, expect heavy scrutiny. The IRS has signaled aggressive review of ERC claims and many were filed on shaky theories. A buyer will discount aggressively or carve out indemnification specifically for the credit.
Misclassified workers (1099 vs W-2)
Workers classified as independent contractors who walk and talk like employees create payroll tax, retirement plan, and unemployment insurance exposure that can sit unaddressed for years. The buyer's diligence will reclassify and the seller will eat it.
Capital accounts that do not tie
Partnership and LLC capital accounts often drift from K-1 reporting over the years. If yours do not reconcile, expect questions about whether basis is correct, whether 704(b) and 704(c) layers were tracked, and whether the deal can close on a stock or interest sale at all.
Tax DD Checklists by Entity Type
What a buyer will request from a target organized as each entity type. Use these as starting points to understand what diligence will look like for your business.
LLC Tax DD Checklist
Federal partnership and SMLLC issues, capital accounts, basis, 754 elections, state nexus, and entity-specific tax cleanup.
View checklistPartnership Tax DD Checklist
Hot assets (Section 751), 704(c) layers, disguised sales, 707 payments, BBA partnership audit regime, and partner-specific items.
View checklistS-Corporation Tax DD Checklist
Reasonable compensation analysis, AAA tracking, built-in gains, single class of stock compliance, and inadvertent termination history.
View checklistSmall C-Corp Tax DD Checklist
E&P, NOL Section 382 limits, accumulated earnings exposure, personal holding company status, and basis in subsidiaries.
View checklistLegal DD Checklists by Entity Type
The corporate, contracts, and IP records a buyer will want to see. Tax and legal diligence run in parallel — the legal review usually uncovers half the tax exposures and vice versa.
LLC Legal DD Checklist
Operating agreement, membership ledger, capital calls, IP assignments, material contracts, and change-of-control provisions.
View checklistPartnership Legal DD Checklist
Partnership agreement, partner authority, indemnification provisions, continuation rights, and capital records.
View checklistS-Corporation Legal DD Checklist
Bylaws, stock ledger, S-election history, shareholder agreements, board minutes, and 409A valuation history.
View checklistSmall C-Corp Legal DD Checklist
Articles, bylaws, stock issuances, options, equity plans, board minutes, and corporate housekeeping.
View checklistHow I Engage on Sell-Side DD
Free 30-minute strategy session
Tell me where you are. If you are 6 to 24 months from going to market, I tell you which of these issues are most likely to surface in your business and what cleanup is realistic in the time you have.
Pre-LOI tax review
Before you respond to a buyer, I run after-tax outcome modeling under different deal structures (asset, stock, F-reorg, installment) and pressure-test the entity's tax history against the buyer's likely diligence list.
Cleanup and remediation
Most exposures are fixable if you find them before the buyer does. I coordinate amended returns, voluntary disclosure agreements, payroll reclassifications, and capital account reconciliations so you go to market with a clean room.
Diligence response and negotiation
When the buyer's tax diligence comes in, I respond on your behalf. Items that survive go into the indemnification, escrow, and tax representation provisions of the purchase agreement, and I negotiate those terms line by line.
Frequently Asked Questions
What is sell-side tax due diligence and why would I pay for it?
Sell-side tax due diligence means doing the buyer's tax review on yourself, before they do it. It surfaces exposures you can fix while you still control the timeline, instead of having them found at the worst possible moment. For most family businesses going to market, sell-side diligence pays for itself many times over by avoiding price reductions, escrow holdbacks, and indemnification claims that a buyer would otherwise extract.
Is this the same as a quality of earnings (QofE) report?
No. A QofE is an accounting and finance review focused on normalized EBITDA. Tax due diligence is a separate workstream focused on federal, state, and payroll tax positions. The buyer will run both. You should know what each will find before you sign an LOI.
How far in advance should I do this?
Twelve to twenty-four months out is ideal. That gives time to file amended returns, complete voluntary disclosure agreements with states, fix worker classification, and clean up capital accounts. Six months works for less complex businesses. Less than that, you are doing damage control rather than cleanup.
Will the buyer accept my sell-side tax DD report?
Sometimes the buyer will accept it as the basis for their own diligence and shorten the process. More often it shapes the questions they ask and the issues they price in. Either way, you walk into the room knowing what the buyer is going to find.
Do you handle this for non-Michigan businesses?
Federal tax positions, payroll tax, and the structural review are handled regardless of state. For Michigan businesses, I also handle the state and local tax review directly. For businesses in other states, I typically handle the federal and structural work and coordinate with local counsel or local tax advisors on state-specific items.
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