Sales and Use Tax Consequences of Reorganizations, Separations, and Acquisitions

• Publication year: 2003
• Pages: 81
• Citation: Vol. 32 No. 4 Pg. 81

32 Colo.Law. 81 Colorado Lawyer 2003.

2003, May, Pg. 81. Sales and Use Tax Consequences Of Reorganizations, Separations, And Acquisitions

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81

Vol. 32, No. 4, Pg. 81

The Colorado Lawyer
May 2003
Vol. 32, No. 5 [Page 81]

Specialty Law Columns
Tax Tips
Sales and Use Tax Consequences Of Reorganizations Separations, And Acquisitions
by Andrew W. Swain
C 2003 Andrew W. Swain

This column is sponsored by the CBA Taxation Law Section to provide timely updates and practical advice on federal state, and local tax matters of interest to Colorado practitioners

Column Editors:

Larry Nemirow, Denver, of Davis, Graham & Stubbs LLP, (303) 892-7443, and John Warnick, Denver, of Holme Roberts & Owen llp - (303) 861-7000

About The Author:
This month's article was written by Andrew W. Swain, a tax attorney in Denver - (303) 638-6324.

Business reorganizations, separations, and acquisitions can have unexpected sales or use tax consequences. This article discusses those consequences and how tax practitioners may, in many instances, be able to help their clients avoid such taxes.

The decision to reorganize, acquire, or dispose of a business typically is steered by business considerations. When taxes become a concern in such transactions, the focus is generally on income taxes. The importance of properly structuring a business's sale or reorganization to avoid or limit federal and state income taxes often overshadows any concern for transactional taxes, such as sales and use taxes. Nevertheless, the sale or reorganization of a business can have significant state and local sales or use tax consequences. For example, because capital assets usually represent a company's largest investment, the sale of those assets can result in significant sales tax liabilities - a consequence that may not be considered during the planning of the transaction.

This article discusses Colorado's sales and use tax regime and transaction tax consequences associated with reorganizations, separations, and purchases that involve acquiring an interest in a business entity. It also discusses Internal Revenue Code ("IRC" or "Code")^[1] § 338 (h)(10) and whether making an election pursuant to this provision brings about any sales or use tax consequences. This article does not, however, discuss in detail the Colorado sales or use tax consequences associated with the acquisition of a business through a direct purchase of its assets.^[2]

Colorado's Sales and
Use Tax Regime

Colorado has one of the most complex sales or use tax regimes^[3] in the United States. The state imposes a 2.9 percent sales tax on sales and purchases of tangible personal property and enumerated services. The state also imposes a complementary consumer use tax on the privilege of storing, using, or consuming in the state any article of tangible personal property purchased at retail.^[4] In addition to collecting state sales and use taxes, the Colorado Department of Revenue ("CDOR") administers and collects local sales taxes on behalf of 161 statutory (non-home-rule) cities and forty-six statutory counties.^[5] The CDOR also administers Colorado's special district sales and use taxes for the Regional Transportation District (0.6 percent), Metropolitan Scientific and Cultural Facilities District (0.1 percent), and Metropolitan Football Stadium District (0.1 percent).^[6] With minor exceptions, the tax base for these special district taxes and the exemptions that apply for purposes of Colorado sales and use taxes mirror those imposed by the state.^[7]

Self-Collected Local Taxes

Colorado permits statutory cities and counties to impose local use taxes on motor vehicles, as well as on building materials and supplies used in construction projects.^[8] However, the CDOR does not administer or collect those local use taxes.^[9] Colorado has fifty autonomous, self-collecting taxing jurisdictions ("home-rule cities") that derive their authority to impose sales and use taxes from the Colorado Constitution.^[10] For tax purposes, Colorado treats its home-rule entities as if they were states within a state. Therefore, Colorado's statutory and regulatory provisions generally do not apply to the home-rule cities' imposition of their tax regimes. Nonetheless, state statutes and case law affect the appeal of assessments issued by home-rule cities.^[11]

No Exemptions for One-Time Sale of a Business

Contrary to the common rules of other jurisdictions, and despite frequent misconceptions about Colorado,^[12] neither the state nor its home-rule taxing jurisdictions have casual, isolated, occasional, or bulk sale exemptions.^[13] Unless Colorado or its home-rule jurisdictions exclude or exempt from taxation a particular type of acquisition or a particular asset received as a result of an acquisition, the jurisdictions impose their sales or use tax on the full purchase price paid to acquire a business or its assets. For this reason, it is important to know the sales or use tax consequences of any proposed purchase of an interest in a business, including a merger, consolidation, or disposal, as well as the consequences of an asset acquisition.

Different Types of Business Acquisitions

A business entity may acquire another either through: (1) an interest acquisition, such as stock in a corporation or membership interests in a limited liability company ("LLC"); or (2) an asset acquisition. For federal tax purposes, the acquisition of a business accomplished through the acquisition of interests in an entity can take various forms, including reorganization, formation, merger, consolidation, separation, and outright acquisition.

Interest Acquisitions
Assume Liabilities

For sales or use tax purposes, an important rule applies to a reorganization, merger, consolidation, separation, or outright acquisition. In each of these, the purchasing or surviving entity assumes all liabilities of the entity it acquires, including contingent or unknown liabilities.^[14] This rule applies to federal, state, and local taxes, as well as environmental liabilities.^[15]

Asset Acquisitions
Avoid Liabilities

Contrary to the result of purchasing an interest in a business entity, the purchaser of assets generally need not assume any liabilities associated with the assets, including contingent or unknown liabilities.^[16] Accordingly, for sales and use tax purposes, an outright purchase of a business's assets does not differ from everyday purchases of tangible property made at retail stores.

Sales or Use Tax
Consequences

For sales or use tax purposes, within the context of the purchase of a business's interest, there are three methods of purchasing a business: (1) stock exchanged for money or other intangibles; (2) stock exchanged for other forms of consideration, namely tangible assets; and (3) multi-step acquisitions combining both of the other two acquisition methods. The sales or use tax consequences associated with a business reorganization, separation, or acquisition depend on whether the business transaction involves one of these three acquisition methods.

Stock Exchanged for Money

Generally, stock that is exchanged (purchased) for money - as opposed to being exchanged for other consideration, such as assets - is not subject to sales and use taxes. Colorado imposes its sales tax on sales and purchases of tangible personal property and enumerated services. Colorado imposes use tax on the privilege of storing, using, or consuming in the state any article of tangible personal property purchased at retail.^[17]

In its tax regulations, the CDOR specifically excludes intangible property from its definition of tangible personal property and identifies stocks and other rights of action as intangible.^[18] Accordingly, the exchange of stock or interest in a business for money does not constitute a transaction subject to Colorado's sales and use taxes.

Likewise, Colorado would not impose its tax on an exchange of stock for stock (type "B" reorganizations) because this consists of an exchange of intangible property. Therefore, even if the state did not specifically exclude type B reorganizations from its definition of taxable sales, it would not subject a B reorganization to sales or use tax.

Similarly, the state would not impose its tax on a "reverse triangular" merger.^[19] In this functional equivalent of a B reorganization,^[20] the surviving target and parent subsidiary merely exchange one another's stock. If a split-off^[21] or split-up^[22] involves an exchange of stock, rather than an exchange of stock for tangible assets, the state would consider it a non-taxable exchange of intangibles.

Colorado excludes type "E" reorganizations (recapitalization) and "F" reorganizations (change in identity of a single corporation) from the definition of a taxable sale or purchase.^[23] However, E and F reorganizations should constitute non-taxable transactions for sales or use tax purposes even without this exclusion, because neither type of reorganization involves an exchange of tangible assets for consideration. Similarly, a spin-off^[24] involves a distribution of stock rather than an exchange of stock for tangible consideration and, therefore, constitutes a transaction unrecognized for sales or use tax purposes.

The merger or consolidation of a partnership, LLC, or other non-corporate pass-through entity will not have Colorado sales or use tax consequences; the state has statutory provisions that control the merger or consolidation of these entities. Colorado permits them to exchange an interest for other consideration in the process of transferring their entity interests.^[25] Because these exchanges do not constitute conveyances or...