A business sale is taxed based on the deal structure (asset sale vs. stock sale), how long you held the business, and how the purchase price is allocated across asset categories. Most of the gain qualifies for long-term capital gains rates (0%, 15%, or 20%), but certain portions, such as depreciation recapture and non-compete payments, are taxed as ordinary income, potentially up to 37%. High earners also face the 3.8% Net Investment Income Tax on top of capital gains rates.
The single most important tax variable in a business sale is the deal structure. In a stock sale, you sell your shares directly, the entire gain is generally treated as long-term capital gain if you have held the stock for more than one year. In an asset sale, the purchase price is allocated across individual asset categories, each taxed differently.
In an asset sale, hard assets like equipment are subject to depreciation recapture under IRC Section 1245, taxed at ordinary income rates up to 37%. Real property recapture under Section 1250 is capped at 25%. Goodwill is taxed at long-term capital gains rates, which is why sellers negotiate to maximize the goodwill allocation. Payments for a non-compete agreement are taxed entirely as ordinary income, a distinction that can cost a seller significantly if the allocation isn't negotiated carefully.
The 3.8% Net Investment Income Tax (NIIT) under Section 1411 applies to gains from a business sale for taxpayers whose modified adjusted gross income exceeds $200,000 (single) or $250,000 (married filing jointly). This brings the effective federal capital gains rate to 23.8% for many business sellers. Illinois doesn't impose a separate capital gains tax, gains are taxed at the flat 4.95% individual income tax rate.
Planning before the sale closes is essential. Strategies such as installment sales, charitable remainder trusts, Qualified Opportunity Zone investments, and pre-sale Roth conversions can each reduce the tax burden, but most require time and structuring before the deal is signed.
Key facts
- Long-term capital gains rates in 2026: 0% (income up to ~$48K single / ~$96K married), 15% (most sellers), 20% (income above ~$533K single / ~$600K married)
- 3.8% NIIT applies on top of capital gains rates for MAGI above $200,000 (single) or $250,000 (married), bringing the effective federal rate to 23.8%
- Depreciation recapture (Section 1245): taxed at ordinary income rates up to 37%
- Unrecaptured Section 1250 gain on real property: taxed at a maximum 25% federal rate
- Non-compete payments: taxed as ordinary income, not capital gains
- Illinois doesn't have a separate capital gains tax, gains are included in the 4.95% flat income tax
Do I pay state taxes when I sell my business in Illinois?
Yes. Illinois includes capital gains in ordinary income and taxes them at the flat 4.95% rate. Unlike many states, Illinois doesn't have a separate (lower) capital gains tax rate. However, Illinois doesn't tax retirement account distributions, which is relevant if some of the proceeds flow into retirement accounts.
Can I spread out the tax on my business sale over multiple years?
Yes, an installment sale under IRC Section 453 allows you to receive the purchase price over multiple years and recognize gain proportionally each year. This can keep you in a lower tax bracket year by year and is especially useful if the buyer is willing to carry a seller note.
What is the Net Investment Income Tax and will it apply to my business sale?
The NIIT is a 3.8% surtax on net investment income (including capital gains from a business sale) for taxpayers above the $200,000 / $250,000 MAGI threshold. Most business sellers at exit will exceed these thresholds in the year of the sale, making the effective federal capital gains rate 23.8% rather than 20%.
