Goodwill amortizes slower than your loan repays.

This is a cash problem wearing a tax costume. Most of an SBA-financed purchase price lands in goodwill and other section 197 intangibles, which you deduct over fifteen years, while the acquisition loan on that same goodwill is repaid over about ten — and principal is not deductible at all. Profitable on paper, short at the bank.

Why does a profitable business run out of cash in its first tax year after an acquisition?

The first tax year after an acquisition produces taxable income the business cannot fund because two clocks run at different speeds. Goodwill is recovered ratably over fifteen years. The acquisition loan is repaid over roughly ten. Principal repayment is never deductible. You write the bank a large check and deduct only the interest portion of it.

Take a $3,000,000 asset purchase: $300,000 to equipment, $2,700,000 to intangibles, $2,700,000 financed over ten years at a fixed 10.5 percent. Debt service runs about $437,000 a year, roughly $276,000 of it year-one interest and $161,000 principal. Section 197 amortization is $180,000, a deduction that moves no cash. The table holds EBITDA flat at $750,000, assumes twelve full months of amortization, ignores equipment depreciation, and taxes the owner at an assumed combined 35 percent.

Three assumptions deserve skepticism. Amortization begins with the month of acquisition, so a June closing gives you half of the $180,000 in year one. Most 7(a) loans carry a variable rate, so the split is a projection. Guaranty fee and loan costs are amortized over the loan term under Treasury Regulation 1.446-5, not deducted as paid.

Now read the last column downward. Nothing changed in the business. Taxable income climbs by a quarter of a million dollars because the deductible slice of a fixed payment shrinks every year. Across ten years you repay $2,700,000 of principal and deduct $1,800,000 of basis, leaving roughly $900,000 unrecovered when the loan is gone.

Law: 26 U.S.C. 197(a), 163(a); 26 CFR 1.197-2, 1.446-5.

The bank amortizes your purchase in ten years. The Internal Revenue Code amortizes it in fifteen. You fund the difference personally.

Why is fifteen years the recovery period for goodwill?

Section 197 requires acquired goodwill, going concern value, customer lists, workforce in place, and a covenant not to compete entered into with the acquisition of a business to be amortized ratably over fifteen years, beginning with the month of acquisition. No shorter life is available for proving a customer list churns faster. The period is statutory and flat.

Two consequences follow. The covenant not to compete is a fifteen-year asset even though its restricted period is usually two to five years, so paying more for it buys no speed. And how you buy decides whether you get the deduction at all. An asset purchase gives you cost basis in the intangibles; buying corporate stock does not. Buying all the membership interests of an LLC is treated as buying the underlying assets under Revenue Ruling 99-6 and does produce amortization. Buying part of a partnership needs a section 754 election. For an S corporation, a 338(h)(10) or 336(e) election reaches the asset result if every shareholder signs.

One narrow trap. The anti-churning rule can deny amortization of goodwill held or used between July 25, 1991 and August 10, 1993 by someone related to you after the deal, relatedness tested above 20 percent; a gain recognition election can cure it with the seller’s help.

Law: 26 U.S.C. 197(a), (d)(1), (f)(9), 338(h)(10), 336(e), 754; Rev. Rul. 99-6.

How is the purchase price allocated, and why does the seller fight you over it?

Allocation in an applicable asset acquisition follows the residual method under section 1060. Consideration is assigned to seven asset classes in order, each absorbing no more than the fair market value of the assets in it, with whatever remains falling into Class VII, goodwill and going concern value. Buyer and seller each report on Form 8594.

Both file with the return for the year of the sale. The word that matters is residual. Goodwill is not valued. It is what is left after the identifiable assets are priced, which is why a goodwill-heavy allocation is the default rather than a decision. Your preferences and the seller’s diverge from there.

A written allocation agreed by both parties binds the two of you under section 1060(a) unless the Secretary determines the allocation or valuation is not appropriate. Read that as binding on you, not on the IRS. Fair market value is the ceiling: you cannot park $600,000 against equipment worth $300,000 because it suits your cash flow. Your lender will order a business valuation, but that is not an allocation, and a separate equipment appraisal is uncommon at this size.

The covenant not to compete is the asset nobody wins: ordinary income to the seller, fifteen-year property to you. The trade usually offered instead is a paid consulting agreement, deductible under section 162 if the pay is reasonable and the work real. The IRS can recharacterize a padded fee as purchase price, and the payments are generally self-employment income. The SBA also caps the seller’s role: as of October 2026, under SOP 50 10 8.1 a seller in a complete change of ownership may consult for up to twenty-four months and may not remain an officer, director, stockholder or employee, where the prior SOP allowed twelve. Confirm the limit in the version your lender applies.

Law: 26 U.S.C. 1060(a), (b), 1245, 162(a); 26 CFR 1.1060-1, 1.338-6(b); IRS Form 8594.

Which tax levers are still open after closing?

Three levers survive the closing date, and all of them operate on the tangible side of the allocation rather than on goodwill: bonus depreciation, section 179 expensing, and the timing of when property is placed in service. None of them touch section 197 intangibles. The positions below are stated as of October 2026.

• Bonus depreciation. One hundred percent first-year bonus depreciation applies to qualified property acquired after January 19, 2025 and placed in service after that date; property acquired earlier stays on the old phase-down, 40 percent for 2025 and 20 percent for 2026. Used equipment qualifies unless you previously used it or bought it from a related party. Section 197 intangibles never qualify. Expensing the $300,000 of equipment cuts year-one taxable income to roughly zero; below zero, section 461(l) and the net operating loss rules decide when you use the loss.
• Section 179. The limit rose to $2,500,000 with a $4,000,000 phase-out, both indexed; for 2026 the figures are $2,560,000 and $4,090,000. The cap that bites buyers is taxable income: the deduction cannot exceed aggregate taxable income from your active trades or businesses, and the excess carries forward. Bonus depreciation has no such cap.
• Timing. Both turn on when property is placed in service, not when you signed. Assets bought in the acquisition are placed in service at closing.

Accelerating depreciation creates no cash. It moves the tax bill into the later years, exactly when the table shows income rising and cash falling.

Law: 26 U.S.C. 168(k), 179(b), 461(l); Pub. L. 119-21 (2025); Rev. Proc. 2025-32.

Which income limitations bite a goodwill-heavy buyer?

Two limitations decide how much of the deal you can deduct. The section 163(j) business interest limitation spares a taxpayer that meets the section 448(c) gross receipts test and is not a tax shelter; the indexed threshold was $31,000,000 for taxable years beginning in 2025 and $32,000,000 for 2026. Section 199A reduces taxable income without producing cash.

Most buyers at this size clear the exemption and deduct interest in full. Two things take it away. Gross receipts of commonly controlled entities are aggregated, so a buyer assembling several businesses should recheck annually. And an entity allocating more than 35 percent of its losses to limited partners or limited entrepreneurs is a syndicate, which cannot use the exemption at any size. The test runs year by year and bites only in a loss year, which a large bonus depreciation election can produce.

If it applies, deductible interest is capped at business interest income plus 30 percent of adjusted taxable income, with the excess carried forward indefinitely. For taxable years beginning after December 31, 2024, adjusted taxable income is again computed with depreciation and amortization added back, so your $180,000 of amortization no longer shrinks the cap.

Section 199A allows up to 20 percent of qualified business income to be deducted on the owner’s return, and the 2025 legislation made it permanent. Above the thresholds a cap phases in over a range rather than at a line: the greater of 50 percent of W-2 wages, or 25 percent of wages plus 2.5 percent of the unadjusted basis of qualified property. Qualified property is depreciable tangible property, so your $2,700,000 of goodwill contributes nothing. A labor-light, goodwill-heavy business can lose the deduction precisely when the owner’s income is highest, and a specified service trade or business loses it entirely above the range.

Law: 26 U.S.C. 163(j)(1), (3), 448(c), (d)(3), 461(i)(3), 1256(e)(3)(B), 199A(b)(2), (b)(3), (b)(6), (d)(2); 26 CFR 1.448-2; Rev. Proc. 2025-32.

Does the SBA loan structure make the mismatch worse?

SBA 7(a) financing compresses the repayment side of the mismatch. As of October 2026, 13 CFR 120.212 caps a 7(a) term at ten years unless the loan finances real estate or equipment with a useful life longer than ten years, so the goodwill portion of an acquisition generally runs ten years and fully amortizes.

A fifteen-year tax recovery period against a ten-year fully amortizing loan is the entire problem in one sentence. Balloon payments are not the norm, because the SOP in force generally requires full amortization, which is why the principal column never gets a holiday. Where owner-occupied real estate is included, that portion can run longer, and as of October 2026 a mixed-use loan may carry a weighted-average maturity. Ask how the blend is calculated.

On currency: SOP 50 10 8.1 was issued August 14, 2026, reissued with technical updates on September 25, 2026, and took effect October 1, 2026. A lender applies the version in force when your loan number issues, not the one in force at your letter of intent. Confirm the current version and its effective date with your lender.

Then read your loan documents on distributions. If the credit agreement limits what the business may distribute, your ability to pull out cash to pay tax on its income is a drafting question, not a math question.

SBA, stated as of October 2026: 13 CFR 120.212; SBA SOP 50 10 8.1, effective October 1, 2026.

What should you do before closing and in the first ninety days?

The buyer’s task is to convert the mismatch from a surprise into a budgeted line item, and most of that work happens in the weeks on either side of closing. Model after-tax cash rather than EBITDA, fix the allocation in writing, and fund the tax bill the way you fund debt service.

• Build a three-year model whose bottom line is cash after debt service, taxes, capital expenditure and your own compensation. If it is negative in any quarter, the structure is not finished.
• Ask your lender for the full amortization schedule, not the monthly payment, and for the rate reset mechanics if it is variable.
• Negotiate the allocation schedule as a term of the purchase agreement, with a covenant that both parties file Form 8594 consistently.
• Price the covenant not to compete separately, and check the SOP limit on the seller’s post-closing role before drafting a consulting term. Check the section 448(c) and syndicate position too.
• Decide bonus depreciation and section 179 deliberately, knowing that accelerating into year one raises taxable income later, when the deductible share of your payment is already shrinking.
• Open a tax reserve account at closing and fund it monthly as a fixed obligation. Your estimated tax safe harbor may run off a prior year in which you were a salaried employee, and it is 110 percent of that year’s tax if your prior-year adjusted gross income exceeded $150,000. A safe harbor avoids the penalty, not the bill.

I ask for the amortization schedule and the draft allocation before I ask what the business earns, because those two documents decide whether the earnings are reachable. Take both to your accountant in one meeting. If you can explain why $294,000 of taxable income leaves $210,000 of cash, you are ready to sign.

Law: 26 U.S.C. 6654(d)(1), 1060, 197.