You Buy A Company You Buy Their Sales Tax Problems

Let's say your company wants to acquire another company. What are the sales tax issues? We recently performed some due diligence for a client of ours who was negotiating to buy a competitor. In this particular case, the acquisition was an asset purchase. Only certain assets were purchased, not all or substantially all of the assets just certain assets. The issues to consider will vary of course depending on the nature of the transaction and the facts present in the situation, but this case will at least be instructive as far as the given facts.



Here are some of the issues they considered.

1. First, does the purchase of the assets transaction itself incur any sales/use tax cost? You should review the applicable state and local tax laws in those states in which the Seller's assets are located to determine if the purchase of assets by the acquiring company would result in any taxes due on the actual purchase transaction. Obviously, you need to know where the assets are located in order to make this determination.

1a. Along those same lines -- you may want to include in the negotiation which party will bear any sales/use tax due on the asset sale is to be borne by the seller.

1b. How will the purchase price be allocated to the assets being purchased?

2. Is the sale reportable in the various states? Every state has their own rules, of course on whether a sale/purchase of assets is reportable in their jurisdiction. This is a matter that should be researched. In this scenario, a large portion of the assets were located in Washington, DC.

2a. Is the sale of assets taxable in DC?

It appears to be taxable but is not entirely clear. We read the law on casual sales and found to be somewhat contradictory. See what you think:

"Casual and isolated sales" means unplanned and nonrecurring sales made by an individual or organization to dispose of certain items of tangible personal property originally acquired for the person's or organization's own use or consumption. ( Reg. Sec. 402.1)

This is exactly what was occurring in our situation, so it would seem that there would be no tax due. But there is another provision that raises a concern. The law exempts certain types of transactions including "casual and isolated sales". Here is the law:

47-2005(7)(A) Casual and isolated sales by a vendor who is not regularly engaged in the business of making sales at retail;

The Distributor in our case was regularly engaged in making sales at retail, but not sales of its business assets purchased and consumed for its own use. The assets being sold were all acquired over many years and tax was paid to DC when the assets were purchased originally.

We advised our client that a written letter ruling from the Mayor's office was desirable in this situation.

3. What About Successor Liability?

Does the Seller have sales/use tax liabilities as a result of their business practices that could transfer to the buyer as the acquiring company.

You should review the laws in the states where the acquired company is registered to ascertain whether a company purchasing all or substantially all the assets of another entity would be held responsible for the prior owner's tax liabilities (referred to as "successor liability.") Obviously you want to avoid assuming any prior sales or use tax liabilities that could be owed by the Seller.

To be conservative, you can assume successor liability is an issue in most states even though it may not be specifically addressed in the statutes and regulations. Since successor liability is a concern, an acquiring company should always review the Seller's sales and purchases to estimate the amount of sales/use tax liabilities that may become your responsibility as a result of purchasing a new company.


Here's what we reviewed:

> Copies of sales/use tax returns for the last 3 years.

> A list of states the company is registered in, along with the dates of registration for sales/use tax purposes.

>Report of sales where no tax was charged by Customer and by State.

>Actual sale or exemption certificates that were obtained by the Seller from its customers.

>Details of Seller's sales/use tax payable account(s) to see if taxes collected were in fact paid to the taxing jurisdictions.

>Any sales tax audits for the last 5 years.

Our motto is: The Best Surprise is No Surprise.

A thorough review of a company being purchased is the best way to minimize surprises.

A New Way States Are Using to Find You

So you use 3rd party contractors to perform work on your behalf in another state. Does that mean you have sales tax nexus in that state? The answer to that is "yes, probably".

We have many clients in this situation. They will usually concede that they should get registered in these states, but they want to make a benefits vs. cost analysis. Sometimes they ask us to assess the risk of being found by a taxing jurisdiction, when their only contact with a state is through nonrelated 3rd parties.


Obviously, it's difficult to put a percentage on the amount of risk they have in that situation. But we can tell them the experience of others in a similar situation.

Here are some of the more common ways states can find companies doing business in their state. And rest assured of this, states are most anxious to find companies, especially out of state (read nonvoting) companies with nexus in their state.

One of the ways, perhaps the most common method states use to find nonregistered companies who should get registered is through audits of other companies. In other words, let's say you use a 3rd party contractor to do maintenance services for a customer in a state where you have no employees or property and in which you are not registered. You don't charge tax. Your customer is audited and naturally the state reviews purchases of maintenance services. Maintenance almost by definition involves people working on site at your customer. When the auditor finds your invoice with no tax on it, she will usually check to see if your company is registered in the state. Then, it's an easy audit lead and the auditor gets a pat on the back.

Another method states use works in the situation where you have employees in a state but are not registered in that state. To find you, they simply do a comparison of payroll tax returns and sales tax returns. Companies almost always register to pay payroll tax as soon as they have employees in a state. They register for payroll tax purposes, but not for sales tax purposes. The tax return comparison approach easily finds companies with nexus by having employees in the state.

There are other methods that states use, like posting agents at truck stops on freeways in their states taking note of trucks that come into the state representing companies who are not registered.

But I want to highlight the recent experience of one of our clients as proof of another popular method states are using to find companies using 3rd party contractors. Think about how you pay these contractors and the filings you are required to make with the IRS by January 31st of each year. That's right 1099's.

States have sharing agreements with the IRS and can get 1099 data for contractors/businesses in their states. This information includes the name of the payor, of course. So what the state does is get a list of payors who made payments to contractors in their state. Then they compare that list of payors to a list of registered companies. The resulting list is a list of companies who use 3rd party contractors in the state.

So, the state has numerous means at its disposal to find companies in their state. If your exposure is relatively high, you should consider how best to limit your exposure, including using the voluntary disclosure process.