“One martini: shaken, not stirred.”
“I’m sorry, sir, we can’t sell alcohol here because the previous owner didn’t pay their sales taxes.”
That’s not the kind of conversation you want to have with your customers. Yet that’s exactly what can happen when state taxes are ignored, overlooked or mishandled. Here are five state tax-related steps every restaurant buyer, broker and seller needs to consider as part of a sale.
1. Look for sales tax refunds
Should a restaurant really be paying sales tax to its to-go box vendor? Or how about to its disposable utensil or chips and salsa vendors? If you’re a restaurant in Georgia, the answer is likely no; you should not be paying sales taxes to any of them. To stop paying sales taxes to your vendors, all you may need to do is provide your vendor with a one-page exemption certificate.
However, not every state interprets or imposes sales tax laws the same way. A restaurant in California or other states may still be required to pay sales taxes to certain vendors. Bottom line: Before selling, hire a tax professional to examine your restaurant’s purchases to make sure there aren’t any available refunds.
If there are available refunds, your tax professional can file documents on your behalf to recover those taxes. Note that refunds are likely limited to three or four years at most from the current date.
2. Determine if the seller should charge the buyer sales tax
If a buyer is purchasing the assets of the restaurant (as opposed to purchasing the legal entity that owns the restaurant), the seller may be required to charge the buyer sales tax on the sale of the assets, depending on the state. For example, if a partnership sells the assets of a restaurant located in Texas, the partnership will likely not need to charge the buyer sales tax so long as “the entire operating assets” of a business are sold; however, in New York the seller will have to charge the buyer New York sales tax.
Because 99 percent of buyers purchase the assets of restaurants, according to veteran broker Steve Josovitz of The Shumacher Group, and because sales taxes average 6 to 8 percent of the sale price, it is imperative that sellers know when they are required to charge sales tax to the buyer as the sales tax amounts at issue can be substantial and either the buyer or the seller can be held liable by the state.
If the buyer is purchasing the legal entity that owns the restaurant, sales taxes are generally do not apply.
The next three steps to consider
3. Check for outstanding sales taxes
The reason most buyers opt to purchase assets of a restaurant (and not the legal entity) is to avoid the seller’s liabilities. However, the buyer can still be held liable for previously unpaid sales taxes of the seller as the normal “successor liability” rules don’t always apply when it comes to state sales taxes.
Moreover, issues with the seller’s unpaid sales tax liabilities can spill over into other nontax areas. Remember the martini-less patron mentioned at the beginning of this article? A buyer’s application for a liquor license can be denied due to outstanding sales taxes from the seller (even in the case of an asset purchase). In these cases, the buyer first must pay the tax (and hope for indemnity) before it can receive an approved liquor license. Josovitz has seen this very scenario play out for buyers who purchased a restaurant without first checking that the seller properly paid sales taxes.
If a buyer purchases the legal entity, the seller’s outstanding taxes generally carry over to the buyer. While there are benefits to purchasing a legal entity – like not having to change everything from licenses to utility deposits, as Josovitz points out — the buyer would be wise to get experts to properly examine whether the seller has any outstanding tax liabilities.
4. Determine if realty transfer taxes apply
If the buyer purchases real property from the seller, the buyer is required to record the deed and typically pay a realty transfer tax at the same time. States, counties, and cities impose these taxes, which vary substantially. In Chicago, for example, the sale of realty triggers a realty transfer tax by Illinois, the City of Chicago and Cook County.
In cases where a buyer purchases the legal entity owning the restaurant, some states may still impose the realty transfer tax. In New York City, for example, the realty transfer tax applies if at least half of the beneficial interest in the legal entity owning the real property is transferred from one party to another.
5. Check for unclaimed property (e.g., gift cards, uncashed checks)
“Unclaimed property” is not, strictly speaking, a tax but instead refers to property that a business holds but which belongs to someone else. Restaurants that sell gift cards that go unredeemed, have former employees with uncashed paychecks, or otherwise hold property that belongs to someone else are often required to attempt to send those funds to the owner or, if the owner cannot be located, hand the funds over to the state.
Although business income taxes are heavily regulated by states, the sale of a restaurant generally does not result in major state income tax complications. Most states deem the sale of a business interest as taxable income. Consequently, any gain recognized by the seller would be included in that business’ taxable income and subject to the particular state’s income tax.
Buyers, brokers and sellers need to be aware of these state tax issues because they directly affect the bottom line of one or all three parties. Even if there is an immaterial amount of unclaimed property, for example, the way the seller deals with the issue speaks to the overall sophistication and picture of the seller, thus ultimately affecting the bottom line.
So, if you want your martini glasses filled with martinis instead of club sodas, make sure to pay attention to those pesky state taxes.
Stephen Bradshaw is a senior manager in the state and local tax practice and Michael Kee is a senior tax associate at Bennett Thrasher.