How the Equity Transfer Process Works

An equity transfer is the process of moving ownership in a privately held company from one party to another, which could involve corporate stock or LLC membership units. The purpose is to legally document a change in ownership, whether from a sale, a gift, or an internal transfer. This process ensures the company’s ownership records are accurate and that the transfer is recognized for legal and tax purposes.

Valuation and Documentation Requirements

Before any equity can change hands, its value must be determined. For tax and legal purposes, this value is the Fair Market Value (FMV), which is the price a willing buyer would pay and a willing seller would accept. For private companies without publicly traded stock, establishing FMV requires a formal appraisal. An independent 409A valuation is a common approach to establish a defensible value and create a “safe harbor” against IRS challenges.

Valuation professionals use one or a combination of three approaches. An asset-based approach calculates the company’s net value by subtracting total liabilities from total assets. An income-based approach focuses on the company’s ability to generate future earnings, discounting those streams back to a present value. A market-based approach compares the company to similar businesses that have recently been sold or to public companies in the same industry.

Once a value is established, the transfer must be documented through a legally binding agreement, often called a Stock or Membership Unit Transfer Agreement. This document serves as the official record of the transaction. It must contain the full legal names and addresses of the transferor and recipient, a precise description of the equity being transferred, and the agreed-upon price or a statement that it is a gift.

These agreements often include representations and warranties, where both parties attest to certain facts, such as the seller’s legal ownership of the equity and their right to transfer it. While templates may be available, obtaining these documents through legal counsel is advisable to ensure they are compliant and tailored to the specific transaction.

The Transfer Process

The transfer process begins with the formal signing of the transfer agreement by both the transferor and the recipient. This act makes the terms of the transfer legally binding and provides the necessary authorization for the company to update its ownership records. Both parties should retain a fully executed copy of this agreement for their personal records.

Following the signing of the agreement, the company’s internal records must be updated to reflect the change in ownership. For a corporation, this means making an entry in the stock transfer ledger. This ledger is the official record of all stock transactions, noting who transferred shares, who received them, the date, and the number of shares involved.

If the company issues physical stock certificates, the old certificate held by the transferor must be canceled and a new certificate is issued to the recipient. For LLCs, the process involves amending the operating agreement or membership ledger to show the new ownership percentages. As confirmation, the recipient receives either their new stock certificate or a formal notification from the company that the transfer has been recorded.

Tax Implications and Reporting

The transfer of equity has tax consequences for both the transferor and the recipient, which depend on whether the equity was sold or gifted. If the equity is sold for more than its original cost, or “basis,” the profit is a capital gain that must be reported to the IRS. The seller uses Form 8949 to detail the transaction, including the purchase date, sale date, cost basis, and sale proceeds. The totals are then carried over to Schedule D (Form 1040).

If the equity is given away as a gift, the transferor may be subject to gift tax. For 2025, an individual can gift up to $19,000 worth of assets to any number of people without a tax filing requirement. If the fair market value of the gifted equity exceeds this annual exclusion, the transferor must file Form 709. Filing this form does not automatically mean tax is due, as the excess amount is applied against the transferor’s lifetime gift and estate tax exemption of $13.99 million for 2025.

The recipient of the equity does not face immediate tax consequences upon the transfer and does not report the received stock or membership units as income. However, the transfer has an impact on their future tax liability. The recipient inherits the transferor’s cost basis in the equity. This means if they later sell the equity, their capital gain or loss will be calculated based on the original owner’s purchase price, a rule known as “carryover basis.”