The sales tax may not be the first things attorneys consider when handling a merger or acquisition, but that does not mean it should be forgotten. In my prior article on mergers & acquisitions, I provided an overview of the sales tax implications of stock sales and asset sales, including an explanation of Florida’s occasional and isolated sale exemption and its application to asset sales. This article is going to expand upon asset sales, in particular sales tax exemptions of commonly transferred assets, along with successor and transferee liability.
Asset Sale Exemptions
When evaluating an asset sale for sales and use tax purposes, you can look at the sale in two ways: as a whole or as its parts. If an asset sale transfers all a business’s assets for one lump sum, then the occasional or isolated sale exemption may be the best option available for exempting the single transaction. However, it is not always the case that one business purchases all the assets from another as a lump sum.
Instead, a purchaser may buy some assets and might do so over time. When more than one transaction occurs, the risk is run that the occasional or isolated sale exemption may no longer apply. Similarly, if the purchaser is engaged in the business of buying other businesses, there also runs a risk that the occasional or isolated sale exemption does not apply because the sale, by nature, is not an occasional or isolated occurrence from the purchaser. Finally, some states don’t have occasional or isolated sales exemptions at all, such as Colorado, Hawaii, Ohio, Oklahoma, New York, Washington, and Wyoming.
When exempting “the whole” asset sale is not an option under a state’s occasional or isolated sale exemption’s particularities or is not possible because the state where the transaction occurs does not even have such an exemption, the next step is to evaluate “the parts” of the deal. Machinery and equipment are high dollar amount items and also some of the most commonly transferred assets in a merger or acquisition. Conveniently, states love to exempt these sales because it encourages industry within the state.
For example, Florida has a variety of exemptions for machinery and equipment. Some can be quite specific. Section 212.051(1), Fla. Stat., provides an exemption for equipment, machinery, and other materials for pollution control. Similarly, section 212.08(5)(c), Fla. Stat., provides an exemption for machinery and equipment used in production of electrical or steam energy.
However, there are two broader categories of exemptions for machinery and equipment in Florida. Section 212.08(5)(b), Fla. Stat., provides an exemption for machinery and equipment used to increase productive output. This exemption is commonly referred to as the “new or expanding business” exemption. Subsection (1.) exempts industrial machinery and equipment purchased for exclusive use by a qualified new business. Meanwhile, subsection (2.) exempts machinery and equipment purchased for exclusive use by a qualified business when they are purchased for the purpose of increasing productive output of an expanded facility or business by not less than 5%. In theory, most machinery or equipment should be purchased for either a new business or an expanding business. Therefore, most machinery or equipment purchases are exempt in Florida.
In addition to machinery and equipment exemptions, assets purchased in a merger or acquisition may include technology, such as SaaS and canned software. In such cases, it is important to remember that the laws regarding taxability of emerging technologies vary dramatically from state to state. For example, just because software may be taxable in one state, it does not mean it is taxable in another. Florida is one state which does not tax most software unless it is delivered on a tangible medium, such as a CD. However, most states more aggressively target this area.
Finally, in purchasing inventory, it is important to remember that states have resale exemptions. If inventory is being purchased, tax should not be paid when that inventory is intended to be resold to end customers. The exception to this exemption is in cases where the inventory is purchased, and although it ultimately ends up with a customer, is in fact “used” by the seller in the providing of services. It is not always easy to distinguish inventory from consumables at the time of bulk purchases depending on the industry, but the distinction must be made at some point, and tax remitted when applicable.
Ultimately, an asset sale may be exempt as a whole under an occasional or isolated exemption sale. However, if the asset sale either does not qualify under the particular statute or the transaction occurs in a state without such an exemption, then the “parts” of the transaction should be evaluated individually for taxability. Certain types of items, such as machinery and equipment, are commonly exempted in states. Meanwhile, the taxability of emerging technologies and software varies greatly from state to state. Finally, more common exemptions, such as the sale for resale, should not be overlooked.
Successor/Transferee Liability
So far, my articles on the sales and use tax implications of mergers and acquisitions have been based on the assumption that due diligence is being performed and the merger or acquisitions is being evaluated from a sales and use tax perspective prior to close. However, it is not uncommon for sales and use tax to be overlooked altogether until after the transaction has been finalized and a subsequent problem has arisen. In such cases, both parties can point fingers at one another regarding blame, but the problem is generally going to fall on the new owner.
Consider these three scenarios:
- Albert owns Al’s Pizza Pies for 30 years until we passes away. His daughter Florence takes over Al’s Pizza Pies upon his death and continues operating the business. One year later Florence receives an audit going back 3 years. Early in the audit period, Albert purchased a delivery vehicle and did not pay tax on the vehicle. Florence is assessed the tax.
- Jorge owns Jorge’s Designer Kitchens and has never understood Florida’s sales tax laws. He keeps his head in the sand until he receives an audit notice from the Florida Department of Revenue. Knowing the assessment will be bad, Jorge sells the business before the assessment is issued.
- Bryan operates Bryan’s Quick Shop where tax is charged on everything and remitted on nothing. Unsurprisingly, Bryan receives a huge assessment and penalties. Bryan has a great idea. He closes Bryan’s Quick Shop and reopens Bryan’s Quick Shop 2.
There are countless ways in which the failure to perform due diligence prior to the sale of a business can come back to haunt the purchaser years later. Sometimes, there are poor intentions from the seller, but often the seller is simply not aware of the problem. Regardless, it will usually be the buyer who is faced with the problem, even if a liability was incurred years before the purchase!
Tax Clearance Letter
A tax clearance letter from the Department of Revenue will confirm there are no outstanding state tax liabilities of the business. Ideally a request for such a letter is made prior to the merger or acquisition. However, sales tax issues are often overlooked, and it may not be considered until after the deal has closed. In such cases, a tax clearance letter can still be requested to identify any outstanding liabilities before the Department comes after the business directly for them. While identifying them early can reduce interest, there may not be anything that can be done except to pay the liability if it is discovered after close.
Tax clearance letters have two main downsides. The first one is that they could trigger a full-blown audit. This may halt a merger or acquisition in its tracks and prevent the deal from closing. Alternatively, if this occurs after sale, a buyer may be hit twice with the liability he or she never knew about and then an audit on top of that. Second, the application process, though supposed to be a short turnaround, can slow down a merger or acquisition even if there are no underlying problems. Then, if a problem is discovered, it can slow the merger or acquisition while a resolution is negotiated.
It is important to note that any private action between the buyer and seller provides no protection from the Department of Revenue. Therefore, even if an action exists to challenge the seller of the business for a liability incurred prior to sale, that will not stop the Department of Revenue from enforcement, which could mean high payments or a frozen bank account.
Conclusion
Ultimately, when engaging in a merger or acquisition, it is vital that the transaction is evaluated from a state tax perspective prior the sale of the business. First, asset sales should be evaluated for tax liabilities as a “whole” and/or as its “parts.” However, it is not just the merger or acquisition itself which is of concern. Prior tax liabilities that a seller may or may not be aware of can come back to haunt a buyer, resulting in the buyer being on the hook for liabilities incurred years before the sale. A tax clearance letter from the Department of Revenue can help avoid transferee or successor liability, if it is thought of prior to sale.
Jeanette Moffa is a partner in the Fort Lauderdale office of Moffa, Sutton, & Donnini, P.A. She focuses her practice in Florida state and local tax, with an emphasis on sales and use tax. Jeanette provides SALT planning and consulting as part of her practice, addressing issues such as nexus and taxability, including exemptions, inclusions, and exclusions of transactions from the tax base. In addition, she handles tax controversy, working with state and local agencies in resolution of assessment and refund cases. You can learn more about Jeanette HERE.
At the Law Office of Moffa, Sutton, & Donnini, PA, our primary practice area is Florida taxes, with a very heavy emphasis in Florida sales and use tax. We have defended Florida businesses against the Florida Department of Revenue since 1991 and have over 100 years of cumulative sales tax experience within our firm. Our partners are both CPAs/Accountants and Attorneys, so we understand both the accounting side of the situation as well as the legal side. We represent taxpayers and business owners from the entire state of Florida. Call our offices today for a FREE INITIAL CONSULTATION to confidentially discuss how we can help put this nightmare behind you.
AUTHORITY
Section 212.02, Fla. Stat. Definitions
Section 212.05, Fla. Stat. Sales, Storage, Use Tax
ADDITIONAL RESOURCES
FL Sales Tax in Mergers & Acquisitions – Part 1: Asset Sale Exemptions and Transferee/Successor Liability, by Jeanette Moffa, Esq., Published April 10, 2023
FL Sales Tax: How To Settle with the Tax Man - Part 1, by James McAuley, Esq., Published November 1, 2020
FL Sales Tax: How to Settle With the Tax Man – Part II, by James McAuley, Esq., Published December 11, 2020