Caveat Emptor, 'Let The Buyer Beware'

Many states have adopted bulk sale laws that may hold a purchaser in an asset sale liable for a seller's unpaid state tax liabilities. Indeed, approximately forty states currently have bulk sale laws that are intended to minimize the risk that a seller will sell some or all of the company's assets without paying its outstanding state tax liabilities.1 Under these laws, a purchaser may be held liable for multiple types of state taxes (e.g., sales and use taxes, corporate income taxes, property taxes) that remain unpaid by the seller. Furthermore, the amount of unpaid taxes for which a purchaser may be held liable can, in some cases, exceed the purchase price of the assets acquired.

When acquiring another business, purchasers may perceive an asset purchase (rather than a stock purchase) to be a good way to minimize the amount of state tax liabilities that the purchaser will inherit. Although this may be true, purchasers often must comply with procedural requirements in multiple states in order to ensure that the seller's unpaid state tax liabilities are not transferred to the purchaser along with the assets. If these requirements are not met, the purchaser may be liable for a variety of unpaid state taxes.

The principal procedural mechanism used by many states to provide protection to purchasers is a bulk sale notice. The bulk sale notice alerts the state to the asset transfer. It also allows the state to review the seller's tax history and issue the purchaser a tax clearance certificate, which may serve as a complete defense from a future assessment against the purchaser of the seller's tax liabilities.

Our experience has been that with careful, timely planning and due diligence, a purchaser may affirmatively use the bulk sale laws to reduce significant state tax uncertainty. In this article, we will discuss: (1) a purchaser's potential state tax liability under states' bulk sale laws; (2) the bulk sale notice and filing procedures employed by states that enable a purchaser to achieve increased certainty regarding a seller's unpaid state tax liabilities; and (3) other special issues related to states' bulk sale laws.

Potential State Tax Liability

Bulk sale laws generally require an asset purchaser to withhold from the purchase price an amount equal to the seller's unpaid state tax liabilities, including penalty and interest. If not withheld, the purchaser will be liable for the unpaid liability.2 The following describes: (A) the amount of tax for which a purchaser may be liable; (B) the types of taxes for which a purchaser may be liable; (C) the states in which a purchaser may be liable for unpaid state taxes; and (D) what sales may result in the application of a state's bulk sale law.

Amount of Potential Liability

The amount of liability that a purchaser may inherit varies by state. Some states limit a purchaser's liability to the amount of the purchase price.3 Thus, a purchaser could end up paying twice for the same assets – once to the seller and once to the state. However, if several states are involved, the potential liability could be several times the purchase price.

To make matters worse, in some states the liability for unpaid taxes may exceed the purchase price of the purchased assets, thus further increasing the cost ultimately paid for the assets.4 For example, Arizona holds a purchaser liable for the seller's unpaid Arizona taxes, with interest and penalties, and does not limit the purchaser's liability to the amount of the purchase price.5 Similarly, Louisiana does not limit the purchaser's liability and holds a purchaser liable for the seller's unpaid Louisiana sales tax obligation, including the interest and penalties accrued.6

Taxes for which a Purchaser May Be Liable

Traditionally, state bulk sale laws only applied to sales and use taxes.7 That remains true in some states, such as New York.8 However, several states have enacted statutes that have expanded the purchaser's potential liability to include additional taxes. For instance, New Mexico's bulk sale law applies to all New Mexico taxes with the exception of the personal and corporate income taxes.9 Some state bulk sale laws apply to all taxes that the state imposes.10 Furthermore, many state laws hold a purchaser liable for accrued interest and penalties on unpaid taxes.11

Holding a purchaser liable for more than just sales and use taxes presents unique challenges for purchasers, especially when acquisitions are on a tight deadline. In Pennsylvania, for example, the purchaser is liable for the seller's sales tax and corporate income tax liabilities through the date of the sale if at least 51% of the assets of the business are sold.12 From a sales and use tax perspective, the seller may be able to readily estimate potential liability by identifying all taxable sales up to the date of the asset transfer. The requirement to file quarterly tax returns helps facilitate the determination of potential liability for periods throughout the year. However, computing the seller's income tax liability up to the date of a sale can be more difficult. The corporate income tax return is filed on an annual basis and the seller may have difficulty determining the income tax liability for the partial year. In such cases, the Pennsylvania Department of Revenue allows taxpayers to estimate the amount due, but the Department may assess additional tax at year end, for which the purchaser may be liable if the seller defaults on the payment.13 Thus, the escrow amount or the amount withheld from the purchase price may need to be held for an extended period.

States that May Assert a Liability Against a Purchaser

Purchasers also need to consider in...