Sale of a Business - Sales Tax Impact

Buying and selling a business can be structured to be tax free from the standpoint of federal income taxes through the merger and other reorganization provisions of the Internal Revenue Code.

However, a tax free transaction from a federal standpoint may not be tax free for State purposes. California imposes a sales tax that should also be taken into consideration for any sale of an entire business.

California imposes a sales tax where six requirements are met:

  1. a sale
  2. at retail
  3. by a retailer
  4. of tangible personal property
  5. within California
  6. for which, no sales tax exemption exists.

A "sale" is defined as "any transfer of title or possession, exchange, or barter, conditional or otherwise, in any manner or by any means whatsoever, of tangible personal property for a consideration. "At retail" is defined as " a sale for any purpose other than resale in the regular course of business in the form of tangible personal property."

A "retailer" includes every seller who makes any retail sale of tangible personal property and every person engaged in the business of making sales for storage, use, or other consumption. The sales tax is also imposed where more than two "retail sales" are made within a 12-month period.

A seller includes "every person engaged in the business of selling tangible personal property of a kind the gross receipts from the retail sale of which are required to be included in the measure of the sales tax . . . whether or not the . . . property is ever sold at retail." In other words, a retailer does not need to be in the actual business of making retail sales but merely in the business of selling property that would be a retail sale if sold at retail.

Sales and use tax law exempts most service industries from the definition of "seller:" accounting, law, laundry, cleaners, and transportation firms. Also, sales of food products are statutorily exempted from the definition of "retail sales."

Also, three major exemptions exist to the imposition of sales tax where a business is sold - (1) occasional sales, (2) mergers, and (3) stock transactions.

An "occasional sale" is defined as "(1) a sale of property not held or used by a seller in the course of activities for which he or she is required to hold a seller’s permit . . . if the activities were conducted in this state, provided that the sale is not one of a series of sales sufficient in number, scope, and character to constitute an activity for which he or she is required to hold a seller’s permit if the activity were conducted in this state; and (2) any transfer of all or substantially all the property held or used by a person in the course of such activities when after such transfer the real or ultimate ownership of such property is substantially similar to that which existed before such transfer."

It appears that qualifying "occasional sales", where a seller’s permit is held is very limited. The sale must be completely unrelated to the seller’s usual course of business activities as well as not be subject to tax as a separate transaction. For example, a restaurant owner who sells his home furnishings and appliances would not be subject to sales tax.

A second exclusion from the sales tax provisions for the sale of a business is a statutory merger. A statutory merger constitutes the transfer of property of one corporation to another in conformance with Sections 1100 - 1305 of the California Corporations Code.

A final method of qualifying for an exemption from sales tax regarding the sale of a business is to structure the sale as a sale of stock instead of as a sale of assets. Stock of a corporation is not tangible personal property and its sale would not be subject to sales tax.

In summary, the "occasional sale" exemption from the imposition of sales tax has very narrow application to the sale of a business. Where a stock purchase of a corporation is not desirable, the statutory merger provides the broadest vehicle for selling an entire business without adverse sales tax consequences.

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