Potential Sales Tax Pitfalls on Buying or Selling a Business

Sales and use taxes (“Sales Tax”) are generally assessed at the retail level in the transaction flow.  For example, when you purchase a taxable item, the retailer has an obligation to separately charge state sales tax, collect the tax from the customer, and file a return with the appropriate tax jurisdiction.. When an item is purchased from a vending machine, the sales tax is included in the “sold amount” of the item. Ultimately it is the Seller’s responsibility to remit the sales tax collected to the tax jurisdiction in the manner prescribed by the tax authorities.

What is less known is that there are major sales tax issues for certain non-retail transactions, specifically the purchase and sale of a business.  This article will detail the significant sales tax issues related to the purchase and sale of a business.  We will focus first on the sales tax issues the seller needs to consider and then on the sales tax issues for the buyer.  

Sales Tax Issues for the Seller to Consider:

 Over time, state tax authorities have broadened the scope of sales tax to include the sale of services and certain non-retail transactions.  The treatment of sales tax on the sale of a business will depend on whether the sale is a sale of assets (i.e., vending machines) versus the sale of stocks.

1)    Sale of Assets:

Sales tax generally applies to the sale of tangible personal property (TPP).  Assets are generally considered TPP, so you have to account for the potential effect of structuring a sale as a sale of assets for sales tax purposes.  Since a sale of assets does not normally occur in the normal course of business, many states maintain an ‘‘occasional or isolated sales’’ exemption that can be applied to asset purchases. 

However, not all states exempt occasional sales.  Specifically, Colorado, Oklahoma, New York, and Wyoming do not have general occasional sales exemptions.  Additionally, other states have limitations on their exemption.  For example, many states, such as California, Idaho, Kansas, Louisiana, Mississippi, and Pennsylvania, place restrictions on the exemption as applied to various vehicles.

Another issue arises regarding inventory. Most isolated or occasional sale exemptions specifically exclude inventory from the list of exempt assets. In most asset purchases that include inventory, the sales tax liability is not applicable, because the buyer purchases inventory for resale. In most states, the inventory can be purchased tax free as a purchase for resale.

Finally, some states provide additional requirements that must be satisfied before the exemption can be applied to the sale of a business. For example, in some states, to qualify for the exemption, the transaction must include ‘‘the entire operating assets of a business or of a separate division, branch, or identifiable segment of the business.”  Thus, an occasional sale of one or two tangible assets by a business may not qualify for the exemption.  

As you can see, there are many significant sales tax issues related to the disposition of a business by a sale of assets.  We strongly recommend that you have a Sales Tax Professional review the transaction to ensure it meets the tax jurisdiction’s requirements.

2)    Sale of Stocks:

In most states, sales of intangible assets such as stocks are not subject to sales tax as it is not a sale of tangible personal property (TPP).  It is commonly understood that buyers of stock or similar ownership interests in a business will inherit all of the known and unknown liabilities of that business along with its ownership interests. 

All historical liabilities, including tax liabilities, continue after the transaction since the legal entity remains in existence and is responsible for its liabilities.  Therefore,  the seller of the business in a stock sale should ensure that there are no significant sales tax issues, otherwise those liabilities could derail the transaction if discovered during due diligence, and impact the sale price or the entire sale.
 
Sales Tax Issues for the Buyer to Consider – Successor Liability

Even though some states do not have statutory successor liability provisions, they still often aggressively pursue the collection of historical or transactional liabilities from the buyer by using other legal doctrines. Whether the economy is struggling or booming, states have an interest in collecting sales tax revenue owed, and it is generally much simpler to seek payment from the current operations of the business than attempting to collect from a former owner who is no longer doing business in the jurisdiction or even in existence.
Many states require one of the parties to an asset or bulk sale of a business to provide the state taxing authority with notice of the proposed sale. Such notifications provide state taxing agencies the opportunity to collect taxes due while the seller has money or assets from which to make a payment. If notification is not given to the state, then the purchaser will have successor liability for sales tax purposes and will become liable for any unpaid sales and use tax of the seller.  
Many states provide specific guidance on how a purchaser may avoid successor liability. The guidance usually includes two main actions, 
1)    Withholding of an escrow to cover potential unpaid taxes and customer loss. 
2)    And the filing of tax clearance requests with the state to support that no taxes are due by the seller. In general, when one or both of these actions are not taken by a purchaser, the purchaser remains liable for unpaid taxes of the seller.
In some cases, the states require the reporting or request for tax clearance to occur prior to the transaction such as in New York or Pennsylvania where a 10-day advance notice of the transaction is required to be filed by the seller. All states do not provide for statutory relief from successor liability.

About the Authors:

Daniel O’Rourke, JD/CPA, is the Chief Operating Officer & SVP of Compliance for TACS, LLC.  Dan has 30 plus years’ experience in the application of sales tax and tax technology, along with a deep level of expertise in state and local tax legislation, as well managing global indirect tax within enterprise level ERP’s.

Scott Walters is the Co-Founder and CEO of TACS, LLC.  Scott has  worked for over 30 years with a focus on sales and use tax, and has extensive experience in the  implementation of tax technology to simplify the accounting process.  Scott’s background includes multiple roles at leading tax technology companies as well as a director at the Tier 1 accounting & consulting firm PWC.