Capital Gains Tax on the Sale of a Business, Asset by Asset

One price, seven tax buckets

In an asset sale, IRC 1060 treats the deal as a sale of each asset. Buyer and seller both file Form 8594 using the residual method: the price fills Class I first and the remainder lands in Class VII. The allocation in the purchase agreement is the biggest driver of your bill. See the purchase price allocation analysis.

The pieces that never get capital gains rates

Five parts of a typical deal are ordinary income however long you owned the company. Inventory profit is ordinary because inventory is excluded from capital assets. Receivables of a cash-basis business were never taxed, so collecting or selling them is ordinary income dollar for dollar. Equipment gain up to the depreciation you took, including Section 179 and bonus depreciation, is recaptured as ordinary income under IRC 1245. Our depreciation recapture analysis walks through it.

The non-compete is the quiet one. You are paid to refrain from working, which is ordinary income, while the buyer amortizes it over 15 years under IRC 197, exactly like goodwill. Because the buyer gets the same write-off either way, every dollar moved from the non-compete line to goodwill is a dollar converted from ordinary rates (37% top bracket, 2026) to Section 1231 rates at little cost to the buyer. Consulting or employment pay after closing is wages or self-employment income; keep it at market rate for real work.

Goodwill: where the long-term gain lives

For most owner-operated companies, goodwill is the largest number on the allocation schedule and its basis is zero because you built it rather than bought it. Held more than a year, it is Section 1231 property: a net 1231 gain for the year is taxed at long-term rates, which top out at 20% above $613,700 of taxable income for joint filers (Rev. Proc. 2025-32, 2026). See the long-term capital gains guide for the full table.

One trap: IRC 1231(c) turns this year's 1231 gain into ordinary income to the extent you deducted net 1231 losses in the five prior years. If you sold equipment at a loss in 2022 and deducted it in full against ordinary income, part of your goodwill gain gives that benefit back. When the owner, not the company, holds the customer relationships, some goodwill may belong to you personally; see the personal goodwill analysis.

Entity type decides who pays and how many times

• Sole proprietor or single-member LLC: you sell the assets directly and report each class on Form 4797 and Schedule D. There is no stock to sell.
• Multi-member LLC taxed as a partnership: the LLC can sell its assets and pass the character through on K-1s, or members can sell their interests. On an interest sale, IRC 751 still carves out your share of receivables, inventory and recapture as ordinary income.
• S corporation: gain passes through once to shareholders. A stock sale is possible, but buyers usually want assets; our asset sale vs stock sale page shows how that gap gets priced.
• C corporation: an asset sale is taxed at 21% inside the company (IRC 11(b), 2026) and again when cash reaches you. That math has its own page: C corporation sale double tax.

Partnership and S corporation owners in states with an elective entity-level tax can often push the state tax on the sale past the SALT cap; see pass-through entity tax on a sale.

The 3.8% NIIT and the active owner

The net investment income tax adds 3.8% on investment income above $250,000 of modified AGI for joint filers ($200,000 single), thresholds fixed in IRC 1411 and not indexed (2026). Gain on property held in a trade or business is excluded when the business is not passive to you. For a sale of a partnership or S corporation interest, IRC 1411(c)(4) applies the same test through a hypothetical sale of the entity's assets.

Not passive means material participation under Treas. Reg. 1.469-5T: the two tests sellers lean on most are 500 or more hours in the year, or material participation in any 5 of the preceding 10 years. That second test matters for an owner who stepped back a year or two before selling. In our examples, the same Illinois sale costs $1,024,136 for an active owner and $1,138,136 for a passive investor, a gap of $114,000 in NIIT alone. The engine applies the 3.8% to the ordinary sale items even for the active owner, a conservative simplification. More detail: NIIT on a sale.

What an installment note can and cannot spread

Seller financing lets you report gain as principal arrives under IRC 453, but not every bucket qualifies. Section 453(i) forces all 1245 and 1250 recapture into the year of sale even if you receive no cash that year. Section 453(b)(2)(B) excludes inventory, so it is reported at closing. Receivables are ordinary income you would report anyway. What spreads is the goodwill and other 1231 gain.

In our four-year example, total tax is $957,251 versus $1,024,136 paid at once, a difference of $66,885, because less goodwill gain reaches the 20% bracket (2026) in any one year. Year one still carries every ordinary dollar, so size the down payment to cover it. Notes above $5,000,000 outstanding at year end trigger the IRC 453A interest charge. See the installment sale of a business and seller financing analyses for buyer-credit protection.

The state layer

Most states tax business gain as ordinary income at their regular rate: Illinois is a flat 4.95% (35 ILCS 5/201, 2026). A few states treat a business sale differently from other gains, and the engine models these with an asset-type switch:

• Ohio: gain from selling a business can be business income, with the first $250,000 deducted and the rest taxed at 3% (ORC 5747.01, 2026).
• New Mexico: deduct 40% of up to $1,000,000 of net capital gain from the sale of a business (NMSA 7-2-34, 2026).
• Oklahoma: a 100% deduction for gain on Oklahoma business assets or company interests held 2 years, if the company has been headquartered there 3 years (Form 561, 2026).
• Washington: no income tax, but a 7% excise on long-term gains over the standard deduction plus 2.9% on gains over $1,000,000 (RCW 82.87, from 2025), with a deduction for qualified family-owned small businesses (RCW 82.87.050).

Moving before the sale only works if domicile truly changes first; see changing residency before a sale and the state-by-state table.

How it plays out by industry

• Equipment-heavy: trucking, construction, manufacturing, landscaping: recapture can rival goodwill.
• Professional practices: dental, medical, veterinary, accounting, law: personal goodwill and receivables dominate.
• Inventory and real estate: gas stations, car dealerships, pharmacies, hotels.
• Route and service trades: HVAC, plumbing, restaurants, franchises, SaaS.

To see your own allocation, recapture and note options side by side, get the Big Sale Tax Analysis.

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Frequently asked questions