Some buyers choose to look only at businesses with tax returns. While it is understandable that a buyer wants to verify the past income of the business, there are legitimate reasons why tax returns may not be available or may not accurately reflect income. Buyers who limit themselves to businesses with tax returns are likely to miss some excellent investment opportunities.

Many businesses for sale are owned by individuals or companies that own several enterprises. If all of these are included on the same corporate tax return, the return would actually show income that is too high for the business being sold.

The real question in this case should be: Are business financial statements available with sufficient transaction detail to verify their reliability? If the target firm uses QuickBooks or another computerized accounting system, the financial statements are likely to be as accurate, if not more accurate, than tax returns. The transaction detail can be spot checked during the due diligence process in order for the buyer and his advisers to form an opinion about their reliability and accuracy.

Keep in mind that many small businesses file their tax returns on a “cash basis.” If this is true and the financial statements are prepared on an “accrual basis,” the financial statements are likely to be more accurate. Generally accepted accounting principles require the use of accrual accounting.

There are two common instances in which the last three years’ tax returns are absolutely required. First, if the buyer wishes to obtain a Small Business Administration business acquisition loan through a commercial lender, the rules require three years of tax returns. (Banks may have this requirement even for non-SBA loans, if they are available). Second, if the buyer is a foreign national using the purchase of the business to obtain an immigration visa (typically an E-2 visa), the U.S. Department of State requires three years of business tax returns as part of the visa application.

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