Generally, the purchaser of assets does not assume the liabilities of the seller. Successor liability, however, is an exception to the general rule. Under the successor-liability doctrine, the IRS may seek to recover unpaid taxes from a “successor”—often a purchaser of corporate assets.
Successor liability is generally determined under state law, although some courts have bolstered state law with a purported federal common law of successor liability.
When does Successor Liability Apply?
In most jurisdictions, successor liability imposes liability in the following circumstances:
- when the buyer or successor expressly assumes the liabilities;
- when the transaction amounts to a de facto merger;
- when the successor is a mere continuation of the seller corporation (e.g., the buyer continues essentially the same operations or product line of the seller); and
- when the transaction is entered into fraudulently to escape liability.
Express Assumption of Liabilities
Where a buyer expressly assumes the seller’s liabilities, the buyer succeeds to those liabilities and is liable for their payment under the successor-liability doctrine. Unless the scope of an express assumption provision is at issue, most successor liability cases do not involve disputes under the express-assumption prong because liability is typically clear.
De Facto Merger and Mere Continuation
Where a taxpayer ceases to do business, a second or successor corporation may become liable for the taxes if the second corporation is the mere continuation of the taxpayer or the predecessor and successor underwent a def factor merger.
The interrelated concepts of de facto merger and mere continuation consider such factors as continuity of management, personnel, location, assets, and operations.
Where a taxpayer ceases to do business, a second or successor corporation may become liable for the taxes of the taxpayer if the second corporation is the mere continuation of the taxpayer.
To determine whether a de facto merger or mere continuation exists, courts have generally looked to whether:
- the second corporation continues the business or performs the same functions as the taxpayer;
- the taxpayer’s employees become the employees of the second corporation;
- the taxpayer and the second corporation are owned or controlled by the same individual or individuals;
- the successor’s business activities are carried out in the same location;
- less than full consideration is paid for the transferred assets; and
- the business relationships remain relatively static.
Fraudulent Transfers to Escape Liability
Successor liability may also apply where a taxpayer engages in a transaction fraudulently with the purpose of escaping liability. Courts have looked to a number of factors to determine whether a taxpayer has engaged in a fraudulent transfer intending to escape liability, including the following factors:
- the transfer or obligation was to an insider;
- the debtor retained possession or control of the property transferred after the transfer;
- the transfer or obligation was disclosed or concealed;
- before the transfer was made or obligation was incurred, the debtor had been sued or threatened with suit;
- the transfer was of substantially all the debtor’s assets;
- the debtor absconded;
- the debtor removed or concealed assets;
- the value of the consideration received by the debtor was reasonably equivalent to the value of the asset transferred or the amount of the obligation incurred;
- the debtor was insolvent or became insolvent shortly after the transfer was made or the obligation was incurred;
- the transfer occurred shortly before or shortly after a substantial debt was incurred; and
- the debtor transferred the essential assets of the business to a lienor who transferred the assets to an insider of the debtor.
For more, see our Insights post, The IRS, Fraudulent Transfers, and Transferee Liability.
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Other Resources regarding successor liability:
i) Successor Liability, Wiki;
ii) Successor Liability, Scholarship Repository;
iii) Successor Liability, Westlaw