What is goodwill?
Goodwill is the extra amount paid when buying a business above the fair value of its identifiable net assets, reflecting things like reputation, customer relationships and trained staff.
What goodwill means
Every established business has some goodwill: loyal customers, a good name, skilled people, a convenient location. But in accounts, goodwill only appears when a business is bought. It is the premium the buyer paid over the value of the separate assets and liabilities it took on.
Goodwill = purchase price − fair value of identifiable net assets
Goodwill you build yourself is never put on your own balance sheet, however valuable it is.
Example
A company buys a local plumbing business for £250,000. It takes over:
| Item | Fair value |
|---|---|
| Vans and tools | £55,000 |
| Stock of parts | £12,000 |
| Customer debts | £23,000 |
| Less supplier debts taken over | (£15,000) |
| Identifiable net assets | £75,000 |
| Goodwill | £175,000 |
Under FRS 102 the £175,000 is shown as an intangible fixed asset and amortised over its useful life. If that cannot be reliably estimated, the life is capped at ten years, giving a charge of £17,500 a year.
Why it matters for your business
If you are buying, goodwill is the part of the price you are paying for future profits rather than for things you can sell. It is worth negotiating hard: if key customers or staff leave after the sale, the goodwill can be worth much less, and the accounts must then be written down (an impairment).
If you are selling, goodwill is often most of what you get. Buyers value it on the profit the business makes without you, so reducing reliance on the owner, documenting processes and spreading customers increases it.
Goodwill and tax
When a sole trader incorporates, they can sell the goodwill of their business to their new company. Since April 2019 companies get corporation tax relief for goodwill only in limited circumstances, broadly where it is bought with qualifying intellectual property, at a fixed 6.5% a year. A seller of goodwill normally pays Capital Gains Tax on the gain, possibly at the Business Asset Disposal Relief rate. Take advice before relying on either.
How buyers put a value on it
For owner-managed businesses, buyers usually start from a multiple of maintainable profit, adjusted for a market salary for the owner. A practice with steady recurring fees and documented processes commands a higher multiple than one relying on the founder's personal relationships. The goodwill is whatever that valuation exceeds the net assets by.
Common questions
Yes, when it has been purchased. It is an intangible fixed asset on the buyer's balance sheet and is amortised over its useful life. Goodwill a business has built itself is not recorded as an asset.
Yes. If a business is bought for less than the fair value of its net assets, the difference is negative goodwill, which can happen in a forced sale. It is shown on the balance sheet and released to profit over time.