When buying or selling a business in Australia, the structure of the sale price is a critical consideration that impacts certainty, risk allocation, tax, and legal compliance. Whether you are a business owner preparing to sell, or a purchaser seeking to minimise risk, understanding the differences between fixed price, earnout, and deferred price arrangements is essential.
This guide is written by our business purchase lawyer. We discuss the key structures, highlights the legal and tax implications, and provides practical tips for negotiating and documenting business sale agreements.
Key Takeaways
- There are three main price structures for business sales in Australia: fixed price, earnout, and deferred price arrangements
- Each arrangement has distinct legal, tax, and risk considerations for both vendors and purchasers
- GST, stamp duty, and capital gains tax (CGT) implications vary depending on the chosen structure
- Clear contractual drafting is essential to avoid disputes and ensure enforceability
- Security interests and dispute resolution mechanisms should be carefully considered and documented
Understanding Price Structures in Business Sale Agreements
Fixed Price Arrangements
A fixed price arrangement involves the buyer agreeing to pay a set amount at settlement or a predetermined date, regardless of the business’s future performance.
This approach provides both parties with certainty about the total consideration. However, it is important for buyers to ensure proper due diligence is carried out before agreeing to a fixed price.
Key features
- Purchase price is stipulated as a lump sum (inclusive or exclusive of GST)
- Price allocation among assets (goodwill, plant/equipment) is important for tax purposes
- Immediate transfer of obligations and risks at settlement
- Potential adjustments for working capital or stock at settlement
Legal and Tax Considerations
- GST may apply unless the sale qualifies as a “going concern” under s 38-325 A New Tax System (Goods and Services Tax) Act 1999 (Cth)
- Stamp duty obligations depend on the State or Territory
- The contract must clearly specify payment terms and adjustments
Earnout Arrangements
An earnout arrangement makes part of the purchase price contingent on the business’s future performance post-completion. Earnouts help bridge valuation gaps and align interests but introduce additional complexity.
Types of Earnouts
- Standard Earnouts: Vendor retains an interest in future performance
- Reverse Earnouts: Consideration may be reduced based on future results
Legal considerations
- Clearly define performance targets (e.g., EBITDA, gross revenue)
- Specify timing and method for calculating earnout payments
- Address vendor’s ongoing involvement in business operations
- Include robust dispute resolution provisions
Taxation
- Earnouts can affect CGT timing and calculation (see Subdivision 118-B Income Tax Assessment Act 1997(Cth)
- The ATO provides guidance on “look-through” earnout rights (TR 2007/10)
- CGT may be recalculated if additional consideration is paid under an earnout (s 116-120 ITAA 1997
Deferred Price Structures
A deferred price arrangement involves payment of all or part of the purchase price at a later date – without performance-based contingencies.
Key features
- Common in vendor finance and instalment sales
- May involve interest or security over assets until payment is complete
- Default consequences and acceleration clauses are standard
Legal and Tax Considerations
- Stamp duty on deferred consideration is governed by State/Territory law (e.g., Duties Act 1997 (NSW), s 18
- For income tax and CGT, the vendor generally accounts for deferred consideration in the year the contract is made (s 104-10(3)(b) ITAA 1997)
- Security interests over assets should be registered on the PPSR under the Personal Property Securities Act 2009 (Cth)
Key Legal Issues and Best Practices
GST and Going Concern
If the business is sold as a going concern, ensure all sale terms meet the requirements of s 38-325 A New Tax System (Goods and Services Tax) Act 1999 (Cth) to achieve GST-free status.
Security Interests
Deferred and some earnout payments may be secured over business assets. Register security interests on the PPSR to protect the vendor’s position.
Drafting Essentials
Effective contracts should:
- Unambiguously set out the purchase price and payment schedule
- Define adjustment mechanisms and triggers for acceleration or default
- Clearly describe financial performance targets for earnouts
- Include dispute resolution mechanisms (arbitration or specific performance)
Common Disputes
Disputes often arise due to:
- Ambiguous financial targets in earnouts
- Defaults on deferred payment terms
- Disagreements over working capital adjustments
Practical Example
Scenario
A Brisbane café is sold for $500,000: $400,000 fixed at settlement, $50,000 deferred for 12 months (secured by a charge), and $50,000 as an earnout based on next year’s sales exceeding $1 million.
Implications
- GST-free status applies if sold as a going concern under s 38-325
- Deferred payment must be secured on the PPSR
- Earnout must be clearly defined (sales target, calculation method, timing)
- Vendor’s CGT calculated on fixed and deferred amounts in year of contract; earnout amount included when paid
Frequently Asked Questions
What is the difference between a fixed price and an earnout arrangement?
A fixed price is paid regardless of future business performance, while an earnout is contingent on achieving agreed performance targets after completion
Are earnouts subject to GST in Australia?
GST treatment depends on whether the sale qualifies as a going concern under s 38-325 A New Tax System (Goods and Services Tax) Act 1999 (Cth)
How are deferred payments secured in business sale agreements?
Security is typically provided by registering a charge over business assets on the PPSR under the Personal Property Securities Act 2009 (Cth)
What are common legal pitfalls in earnout arrangements?
Ambiguous performance targets, lack of dispute resolution clauses, and unclear timing or calculation methods frequently cause disputes. This is an important consideration for buyers when purchasing a business.
Do I pay CGT on deferred or earnout payments?
CGT is generally assessed in the year the contract is made for fixed and deferred consideration; for earnouts, CGT may be recalculated when additional amounts become payable under s 116-120 ITAA 1997
