What is due diligence? Due diligence is the process of identifying and analyzing the risk associated with acquiring a business or selling a business. Tax risk, particularly state and local tax, is a key part of that analysis.
There are many different types of taxes that businesses should take into consideration when doing due diligence, such as property taxes; sales and use taxes; gross receipts taxes; income taxes; and franchise taxes. Each of these tax types have unique rules and implications, and state and local jurisdictions apply those taxes in different ways. It can get complex quickly based on where a company is doing business.
One big misconception that I hear is “I am buying the assets of the targeted company, why should I care whether the targeted company was compliant with state tax laws and rules. I am buying the assets of the company and not buying the entity itself (or its equity).” Buying the assets does not alleviate the purchaser from issues that may arise with the seller if such seller was not compliant with state and local tax laws and rules.
Sales and use taxes and employee withholding taxes are trust fund taxes, whereby a taxpayer collects tax on behalf of the state and remits such tax to the state. Generally, states that impose sales and use tax or an employee withholding tax, provide that any tax liability as a result of these taxes may be enforced upon the company, its owners, its officers or any successor of the legal entity or assets.
For example, if you purchase the assets of a company (the “Company”) and the Company is audited for sales and use taxes, any assessment by the state which is not paid by the seller could result with a lien on the assets that were purchased by you. If the state attaches liens on such assets, and if you try to sell those assets, you will be required to payoff those liens before you will be able to sell the assets. As I stated above, the seller’s issues became your issues and headache.
If you are considering buying a business, it is important to consider all the risks that could be associated with a transaction. A few helpful questions for state and local tax matters that you can ask are: Is the company filing everywhere it needs to be filing? Are the filings being done correctly? Are there or have there been any state audits? If yes, what is the status? Does the company have refund claims outstanding?
If you’re looking to sell your business, it’s best to begin early in preparing for and anticipating the due diligence actions you should take when addressing state and local tax issues. Sellers should consider the following when preparing to sell the business: Consider sufficiency of state tax reserves currently on the balance sheet; Identify areas that may create exposure (like non-filings and economic nexus) that aren’t currently reserved; Document your state and local tax audit history and status of current audits; and Ensure you’ve taken the right steps to comply with changes resulting from recent tax law changes (like South Dakota v. Wayfair and The Tax Cuts and Jobs Act).
As a purchaser of a business, the assets or equity, or a seller of a business, you must be proactive and review whether the seller is compliant with state and local tax laws and rules. As a purchaser, the cost to do due diligence may be less than the cost and headaches you will encounter dealing with any SALT issues. As a seller of a company, you must be aware that a purchaser will likely do due diligence on the purchase of your company, therefore, it would be to your benefit to do your own due diligence before the sale of the business to determine any tax exposures so that when the purchaser does its due diligence, the process is a lot smoother. As a seller, you do not want the deal to be called off due to a state and local tax issue.
Freeman Law can help taxpayers with the due diligence process and navigate these complex state tax laws and rules.
Freeman Law works with tax clients across all industries, including manufacturing, services, technology, oil and gas, financial services, and real estate. State and local tax laws and rules are complex and vary from state to state. As states confront budgetary deficits due to declining tax revenues and increased government spending, tax authorities aggressively enforce state tax laws to recapture lost revenues.
At Freeman Law, our experienced attorneys regularly guide our clients through complex state and local tax issues—issues that are frequently changing as states seek to keep pace with technology and the evolution of business. Staying ahead requires sophisticated legal counsel dedicated to understanding the complex state tax issues that confront businesses and individuals. Schedule a consultation or call (214) 984-3000 to discuss your local & state tax concerns and questions.