Goodwill is an intangible asset of an enterprise. It is the essence of a business that makes it more than just a collection of other assets, like real estate, equipment, inventory, receivables, and cash. Goodwill is a concept based in old English law dating from the early 1800s. Goodwill “is the probability that customers will return to the old stand.” In the early 1900s in the United States, Justice Cardozo captured the essence that goodwill was the tendency for customers to return to the same location or company because of its name or other reasons, regardless of its location. Goodwill is the premium paid in a transaction above the hard assets that cannot be bought or sold independently.
Goodwill is an intangible asset defined as the total value of an enterprise less those other assets, such as current assets, investments, and fixed assets, whose value can be determined through other means. Goodwill can be separated into two parts: personal goodwill and enterprise goodwill. Enterprise goodwill is sometimes called entity or corporate goodwill. They are defined as follows:
Personal goodwill is the value of earnings or cash flow directly attributable to the individual’s characteristics or attributes. Personal goodwill sometimes referred to as professional goodwill, is a function of the earnings from repeat business that will patronize the individual as opposed to the business, new consumers who will seek out the individual, and new referrals that will be made to the individual.
Enterprise goodwill is the value of earnings or cash flow directly attributable to the enterprise’s characteristics or attributes. Enterprise goodwill, sometimes referred to as practice goodwill, is a function of the earnings from repeat business that will patronize the business as opposed to the individual, new consumers who will seek out the business, and new referrals that will be made to the business.
The professionals at Valley Valuations can determine and measure goodwill, including the components of personal goodwill and enterprise goodwill. Many sale transactions can be improved by proper tax planning and knowledge of how goodwill is taxed, both at the corporate entity level and at the personal level. Personal goodwill can avoid double taxation for C-Corporation owners, for example. Engaging our professionals early in the process before the transaction is closed is critical as we can advise on the proper allocations of goodwill and other assets to reduce the tax burden associated with the transaction.