Did car-wash owners assume a failed sublessee's liabilities by paying back rent when they retook the premises?

Plain-English summary

Car-wash owners leased property, guaranteed the lease, built a car wash, sold the operation, and sublet the premises. The sublessee later failed, filed bankruptcy, and returned the equipment and premises. To resume operating, the original owners paid $35,636.88 in back rent.

California found that the payment satisfied the original owners' own continuing obligation. The prime lease expressly kept them liable despite any sublease, and a personal guarantee covered all rent.

Because the owners did not assume the sublessee's liability and gave no other consideration for a business or stock of goods, there was no purchase. Successor liability did not apply, and the determination was canceled.

What this means for you

Prime tenants, sublessors, distressed operators, landlords, and tax advisers

Identify whose legal debt is being paid. A payment made under the returning operator's own lease or guarantee is not automatically consideration for acquiring the failed sublessee's business.

Common questions

Q: Did paying back rent assume the sublessee's debt?

A: No.

Q: Why were the owners already liable?

A: Their prime lease and personal guarantee continued despite the sublease.

Q: Was there a business purchase?

A: No, because there was no assumption of the sublessee's liabilities or other consideration.

Citations and references

• California Revenue and Taxation Code § 6811
• California Sales and Use Tax Regulation 1702(a)

Source

• Annotated Legal Opinions collection: CDTFA Annotated Legal Opinions
• Annotation page: Annotation 535.0046
• Original supporting opinion: 535.0046 PDF

Original ruling text

535.0046

STATE OF CALIFORNIA

STATE BOARD OF EQUALIZATION
BUSINESS TAXES APPLEALS REVIEW SECTION
In the Matter of the Petition
for Reconsideration of Successor
Liability for State and Local
Sales and Use Taxes of:
Petitioners

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DECISION AND RECOMMENDATION

The Appeals conference in the above-referenced matter was held by Staff Counsel Michele F. Hicks on January 5, 1994 in San Diego, California. Appearing for Petitioners: Appearing for the Sales and Use Tax Department:

Wolfgang P. Weichert
Tax Compliance Specialist

Protested Item
Petitioners protest the assertion of successor liability in the amount of $681.76 tax for the period July 1, 1990 through January 31, 1991 for unreported sales of __. A 10 percent penalty for the predecessor’s failure to file a return for fiscal year 1990-91 and a 10 percent finality penalty have been assessed for a total of $136.35 Petitioners’ Contention Petitioners did not purchase the business from the predecessor; they reacquired the business through a foreclosure. Summary Petitioners own and operate a car wash under the dba _. initially entered into a ten-year lease of the property on January 3, 1989. He also signed a personal guarantee for the full performance of the lease terms. Petitioners then constructed a car wash on the property and sold the car wash and sublet the premises to and in June 1990.
subsequently transferred the lease to . The corporation began missing payments and filed for bankruptcy. ___ turned the equipment back to the petitioners and the

535.0046

premises back to the landlord in January 1991. __ did not report or pay any sales tax during the approximate six-month period in which he operated the car wash. In order to operate the business at the new location, petitioners paid the landlord $35,636.88 in back rent owed by _ and . The Board staff contends that successor’s liability should apply on petitioners’ assumption of this liability. Petitioners contend that the $35,636.88 they paid the landlord for back rent was not an assumption of the liability of and . The payment of $35,636.88 was made to pay their own lease obligation as prime lessee. Petitioners have submitted a copy of the lease signed by . Paragraph 15.2 of the lease provides in pertinent part: “Subletting. Tenant shall be entitled, with the prior written consent of Landlord, such consent not to be unreasonably withheld, to sublet the entire leased premises and to collect and retain rentals therefrom. Tenant shall, at all times, remain liable for the performance of all covenants on its part to be so performed, notwithstanding any subletting.” In addition, petitioners submitted a personal guarantee signed by ___ on January 3, 1989, in which he “unconditionally guarantees the full performance of each and every term, condition and covenant of Lease to be performed by Tenant, including the payment of all rent…” Analysis and Conclusions Revenue and Taxation Code Section 6811 provides: "Withholding by purchaser. If any person liable for any amount under this part sells out his business or stock of goods or quits the business, his successors or assigns shall withhold sufficient of the purchase price to cover such amount until the former owner produces a receipt from the board showing that it has been paid or a certificate stating that no amount is due." Sales and Use Tax Regulation 1702(a) provides: "WHEN DUTY TO WITHHOLD PURCHASE PRICE ARISES. The requirement that a successor or purchaser of a business or stock of goods withhold sufficient of the purchase price to cover the tax liability of the seller, arises only in the case of the purchase and sale of a business or stock of goods under a contract, providing for the payment to the seller or person designated by him of a purchase price in money or property or providing for the assumption of liabilities and only to the extent thereof, and does not arise in connection with other transfers of a business such as assignments for the benefit of creditors, foreclosures of mortgages, or sales by trustees in bankruptcy."

535.0046

We agree with petitioners that the $35,636.88 which they paid in back rent was a settlement of their own liability under the lease and not assumption of the liability of __ and _. Paragraph 15.2 of the lease provides that the tenant, , would remain liable on all the terms of the lease even if the premises were sublet. In addition, ___ signed a personal guarantee in which he guaranteed the full payment of all rent due. Since there was no assumption of liabilities or other consideration, there was no sale or purchase of a business or stock of goods. Accordingly, successor's liability does not apply. Recommendation Cancel the determination.

Michele F. Hicks, Staff Counsel

2/4/94
Date