When and Why Every Business Owner Needs a Business Valuation

When and Why Every Business Owner Needs a Business Valuation

Posted on July 14, 2026

Most business owners have a rough number in their heads of what they think the business is worth. That number is usually based on some combination of what a competitor sold for, what a banker once mentioned, or a gut sense built over years of reinvestment. It is not a valuation, and the gap between that mental estimate and a defensible, documented figure has cost business owners real money in taxes, negotiations, and disputes.

A formal business valuation is an independent, methodology-based determination of what your business is worth under a specific standard of value at a specific point in time. “Fair market value,” for example, is considered the price at which a business would change hands between a willing buyer and a willing seller, neither under compulsion, both with reasonable knowledge of the relevant facts. While that definition may seem like legalese, it matters – because the IRS, courts, and lenders all hold valuations to it.

Here is when you need one, and why.

Sale, succession, or exit

The most obvious trigger is also the one most business owners think about too late. If you are planning to sell your business, whether to a third party, a private equity buyer, or a family member, you need a valuation before you enter negotiations, not during them.

A buyer will come with their own number, supported by their own analysis. Without an independent valuation in hand, you are negotiating from memory and instinct. With one, you have documentation of your earnings, a reasoned view of what drives your value, and the foundation to push back when a buyer’s adjustments do not hold up.

The same applies to succession planning. If you are transferring ownership to a co-owner, a key employee, or a next-generation family member through a structured buyout, the purchase price has to be grounded in something. A valuation protects both sides and reduces the likelihood that the transaction gets challenged later by the other party, or the IRS.

Buy-sell agreements

If your business has more than one owner, you almost certainly have (or should have) a buy-sell agreement. That document governs what happens when an owner wants to leave, becomes disabled, dies, or is forced out. It is one of the most important contracts a business can have.

The problem is that many buy-sell agreements are written with valuation language that becomes unworkable over time. A fixed price set years ago no longer reflects current reality. A formula tied to a multiple of earnings may produce a number that is easy to calculate but difficult to defend. And when the triggering event actually happens, that is exactly the wrong time to be arguing about what the business is worth.

A current, third-party valuation, updated on a regular schedule, eliminates most of that friction. It also gives life insurance coverage a defensible target, which matters when funding a buyout.

Estate planning and gifting

Revenue Ruling 59-60, which the IRS has used since 1959 to evaluate closely held business interests for estate and gift tax purposes, sets out factors for determining fair market value. When a business interest transfers at death or through a gifting strategy, the IRS can, and does, challenge valuations it considers aggressive.

If you are transferring business interests to family members, establishing a family limited partnership, or using a trust structure that includes a business stake, the valuation underlying those transfers will be scrutinized. In this context, a well-supported valuation is not a formality. It’s the documentation that helps the transaction withstand IRS review.

Discounts for lack of marketability and lack of control, which reflect the reality that a minority interest in a closely held business is worth less than a proportionate share of the whole, are legitimate and recognized under federal tax law. But they require professional support to withstand IRS review. An undocumented discount is not a discount; it’s an audit finding waiting to happen.

Consider a business owner with an estate that includes a 40% interest in an S corporation worth $5 million as a whole. A properly supported valuation with applicable discounts might value that 40% interest at $1.6 million rather than $2 million – a $400,000 difference in the taxable estate. That difference, at the federal estate tax rate, is material. But, without documentation, it does not exist.

SBA and commercial lending

When a business is acquired using an SBA loan, the lender is required in many cases to obtain an independent business valuation. This protects the lender and, indirectly, the buyer, from overpaying for a business relative to its actual income-producing capacity.

Even outside of SBA transactions, commercial lenders often request valuations when a business is pledged as collateral, when a significant change of ownership is involved, or when the loan amount is large relative to verifiable business income. Having a current valuation on file can accelerate this process and reduce friction at closing.

Divorce and shareholder disputes

A business interest is a marital asset in most states. When a business owner divorces, the business has to be valued by someone. If both spouses commission their own valuations, those numbers frequently differ by significant margins, and litigation becomes the mechanism for resolving the gap.

The same dynamic plays out in shareholder disputes. When a minority shareholder claims they are being squeezed out, or when a departing partner disputes the buyout price, the absence of a current, agreed-upon valuation turns a business disagreement into prolonged legal conflict.

A periodically updated valuation (ideally one that all owners have reviewed and accepted) reduces that exposure. It does not eliminate the possibility of conflict, but it can remove the question of value from the center of the dispute.

Equity compensation

If your business grants stock options or other equity-based compensation to employees, IRC Section 409A requires that the strike price of those options be set at no less than the fair market value of the underlying stock at the time of grant. For private companies, that typically requires a properly supported independent appraisal or valuation process that meets the applicable 409A requirements.

Getting this wrong has consequences for both the employee and the company: accelerated income recognition, excise taxes, and penalties. A 409A valuation is not expensive relative to those risks, and it needs to be updated whenever there is a material change in the business.

Strategic planning and benchmarking

Valuations are not exclusively triggered by transactions or legal requirements. A business owner who understands what drives their company’s value is in a better position to make decisions.

If your business relies heavily on a single customer, employee, or product line, a valuator can reflect that concentration risk in the number. If your EBITDA margins are below what buyers in your industry typically pay for, that gap will be visible. Understanding these factors while you have time to address them is different from learning about them at the closing table.

Some owners commission informal valuations every three to five years simply to track progress and understand where they stand relative to an eventual exit goal. This isn’t excessive; it is the kind of planning that makes exits go smoothly.

What makes a valuation defensible

Not every valuation carries the same weight. The level of support needed depends on the purpose. A valuation used for estate or gift tax planning, a shareholder dispute, divorce, SBA financing, or equity compensation generally needs more formal documentation than an internal planning estimate.

A defensible valuation will apply one or more standard approaches – the income approach, based on earnings capacity; the market approach, based on comparable transactions or public company multiples; or the asset approach, based on the fair value of underlying assets. It should also explain why the selected methodology is appropriate for your business, document key assumptions, address risk factors, and produce a written report that can be reviewed by the relevant parties, whether that is a buyer, lender, court, tax authority, or other stakeholder.

An informal estimate from a broker, banker, or industry rule of thumb may be useful as a starting point for discussion. But when the number will be relied on for tax, legal, lending, or transaction purposes, it should be supported by appropriate valuation analysis and documentation.

How your CPA fits in

Your CPA is often the right starting point when a valuation is needed. A CPA who knows your business can help you understand why the valuation is being requested, what type of report or analysis may be appropriate, and what financial information will be needed to support the process.

If you have not had a business valuation performed, it’s worth a conversation. The right time to know what your business is worth is before you need to act on that number. For more personalized guidance, please contact your trusted TBC advisor.

5 Mistakes overlooked in Buy/Sell Agreements

A Buy/Sell Agreement, also called a business pre-nuptial agreement, or a business will, is a legal document that is used as the mechanism governs business owners when one of them leaves the business. The reality is that every business owner is going to leave. The reasons could be the owner quits, dies, becomes disabled, retires, or is fired.  Buy/sell agreements can also alleviate problems created with shareholders going through a divorce.

Here are five mistakes often overlooked in Buy/Sell Agreements:

  1. Valuations are not updated-The most common changes that happen in a privately owned business are that the value of the business changes over time. If the business valuation is not updated, then if a triggering event occurs what happens?
  2. The Buy/Sell Agreement calls for multiple Appraisers-This can be a very costly proposition. The agreement will state that an appraiser for each side values the business and if they are not within a certain percentage, then a third appraiser is hired. This can be very costly paying for up to three appraisers.  A better approach is to have one appraiser who updates the appraisal on a consistent basis (every two years or so).
  3. Using a Formula Method to Value-Use of a formula method can certainly cut costs on a formal appraisal and may seem easy, but in most situations the value of your business interest is your biggest asset. Wouldn’t you want to know with a high level of certainty that you are getting and/or paying the accurate amount for the business?
  4. Not properly funding life insurance proceeds-In the worst-case scenario the shareholder passes away and their heirs are paid with life insurance proceeds. The Internal Revenue Service assesses a value much higher than what is reported on the estate tax return. The heirs now have a tax bill and in addition, don’t receive full value for the business.
  5. The wrong standard of value is used-The standard of value is predicated on state law. This is where the appraiser and the attorney work together to make sure that discounts are not taken where they are not appropriate.

Buy/Sell Agreements are meant to provide the means to transfer ownership interests in a business during the triggering event. The correct valuation is a critical component of those means. Hiring a qualified thought leader in the industry will help alleviate the stress that comes with this important succession planning tool.

ABOUT THE AUTHOR

David Consigli is a Certified Public Accountant and Partner at Ferraro, Amodio and Zarecki, CPAs who has a partnership with TBC. David has an Accreditation in Business Valuation and is a Certified Divorce Financial Analyst. David practices a philosophy built around providing clients with outstanding creative and personalized quality services. David’s experience and expertise help him provide clients with the tools and resources they need to understand the valuation of closely held businesses, especially when it comes to divorce. His strengths in communicating the results of his valuation conclusion to clients are qualities that make him a leader in the industry.