Since the U.S. Supreme Court’s decision in the Wayfair case, unresolved issues relating to state and local taxes (so called “SALT”) have become a real wild card in the world of M&A transactions.
In Wayfair, the Court overturned the long-standing physical nexus standard for purposes of determining state power to levy and collect sales and use tax. Under the pre-Wayfair standard, physical presence within a state (people or property) was an essential pre-condition to the state’s taxing authority. Post-Wayfair, states can require businesses with more than 200 transactions or $100,000 of in-state sales to collect and remit sales tax even if there is no physical presence in the state.
In the absence of a clear nexus standard, there is an interpretational void causing uncertainty around the magnitude, scope and duration of a company’s liability for uncollected and unremitted sales taxes. If a company is determined to have liability for sales taxes in a state where it has never filed a return, no statute of limitations will apply to the state’s tax claims. The absence of a retrospective time boundary on these claims means that acquirers and investors will have difficulty assessing the actual magnitude of the target company’s potential liability and therefore, the appropriate amount of purchase price to hold in reserve for indemnification. Moreover, traditional representation and warranty insurance products (which have become a prevalent and useful means for allocating indemnity risk in M&A transactions) will not cover SALT liabilities because they are deemed to be “known” contingent liabilities and thus are excluded from coverage.
As with most if not all business risks, the sooner a company can identify and remediate the sales tax problem, the greater the likelihood that the economic cost can be minimized. Certainly, addressing the problem on a “clear day” well in advance of a sale of the company will yield better results than waiting until a buyer or investor discovers the issue in due diligence on the eve of a transaction. There are proactive steps that business owners can take to reduce the risk of too much SALT in your company’s diet.
This post was written by David Jaffe