Buying a new business can be exciting and full of opportunity for a purchaser. The main expense is of course the purchase price, but there are also other ‘hidden’ immediate costs of the transaction. It is crucial to take note and budget for these costs before signing a contract.
Transfer Duty (also ‘stamp duty’) is a State tax charged on the transfer of some types of assets. Because the tax is State based, the laws are different depending on which State the business is in. Generally, Transfer Duty on business sales applies in Queensland and Western Australia, but not in other States unless there is land or real property involved. The Transfer Duty amount is calculated as a percentage on the full price of ‘business assets’. What constitutes as business assets will be stipulated in the contract of sale and is generally the purchase price for the business. The amount of Transfer Duty payable will vary depending on State laws applicable to that transaction.
Where the business operates or has customers in multiple States, the Transfer Duty may need to be assessed and paid in multiple jurisdictions.
Many businesses have some form of inventory, stock, or in some cases unbilled work in progress. The value of these assets fluctuate from time to time (often, from day to day), and therefore the value of the inventory, stock or work in progress may not be known until the day prior to settlement.
Depending on the contract terms, the stocktake, or agreed work in progress, is then added to the sale price before settlement. The risk of an unexpected (or unaffordable) final sale price can be avoided by agreeing on a ‘maximum’ value for these assets in the contract, or alternatively making the contract walk-in walk-out (meaning the contract price is fixed irrespective of the value of the stock at completion, although this has its own risks).
Stock and work in progress can be completed by the purchaser and seller, jointly, or an independent stocktaker or valuer can be appointed. There are costs associated with appointing a stocktaker, who would generally charge 3% to 5% of the stock value for the service.
Goods and Services Tax may not be applicable to a business sale if the business is sold as a ‘going concern’. It is sold as a ‘going concern’ if it includes all things necessary for the continued operation of the business which is carried on as usual until the day of actual transfer of business, and is outlined as such in the contract of sale.
Things that are considered necessary to continue the operation of a business will be unique to the type of business being purchased and does not need to be everything in the business. The key points in order for a sale to be a ‘going concern’ is for the following to be included in the sale:
- all necessary assets that may be required;
- the premises in which the operations take place;
- goodwill of the business; and
- the seller continues to trade as usual until effective control of the business passes to the buyer.
If the transaction is wrongly assessed as a going concern, or the transaction does not meet the conditions for a going concern at completion, GST may be payable at completion on top of the purchase price.
Assignment of Lease or New Lease
When buying a business with physical premises, the purchaser will also need to consider the leasing of the premises where the business is situated and operates. In circumstances where the seller is the owner of the land on which the business is situated, the purchaser will need to enter into a new lease with the seller for use of the land. If the seller is leasing the premises, the seller may surrender their lease so that the purchaser enters a new lease with the existing landlord.
If the seller is already leasing the premises, the purchaser may choose to have the existing lease be assigned to it as part of the business purchase. This means that the purchaser would become the tenant in place of the seller. Alternatively, the buyer may prefer a new lease of the premises altogether.
The landlord will also be incurring legal costs for this exercise. These legal costs can vary considerably and the landlord may insist that the costs are paid by the parties. It is up to the parties to agree in the contract who will pay these costs, and care should be taken to check this and obtain legal advice before signing the contract.
In the sale of business, if there are any employees involved, the purchaser may elect to take on the existing employees. If the purchaser chooses not to take on existing employees or the employees elect not to work for the new employer, the seller will need to terminate all employment contracts and pay out any entitlements. Care should be taken to check the contract before signing, as in some cases the purchaser may need to indemnify the seller against redundancy and similar costs.
If the purchaser elects to take on the employees, employment with the seller will need to be terminated and the purchaser re-employ the employees. In doing this, the purchaser may need to recognise certain entitlements that have accrued with the old employer (being the seller). As per Fair Work requirements, entitlements that must be recognised in a transfer of business include sick and carer’s leave, requests for flexible working arrangements and parental leave. Subject to the contract between the purchaser and seller, an ‘arms-length’ purchaser has the discretion to not recognise any annual leave, redundancy, or notice of termination entitlements, in which case the seller must pay out these entitlements prior to transfer of employees.
Except in some very specific industries, long service leave is a state-based entitlement and the outcome depends on the where the employee is based.
The future potential costs of any assumed employment liabilities, such as accrued annual leave, should come with a proportionate reduction in the purchase price for the business.
If the business requires certain licences or permits, for example building trades, the seller will need to transfer the rights under any relevant licences to the purchaser. This can be done by way of an assignment of the licence. This process may also be timely and costly. Preparations for transfer of licence must be made well in advance of settlement as it may take some time to organise this transfer with the relevant entities involved.
If the business is part of a franchise, there are additional and ongoing fees that must be taken into consideration by the purchaser. Written consent will also be required from the franchisor to the business transfer. Generally, franchise agreements set out specific rules and obligations of the franchisee regarding stock, shop fittings and fixtures, marketing and employees. Compliance with these obligations can be costly, therefore, purchasers of a franchise business must review and consider whether they will be able to comply with the franchise terms when deciding to enter the business sale. Often there is a fixed ‘franchise transfer fee’ payable to the franchisor.
Legal and Accounting Fees
There are various risks and factors involved in the purchase and sale of a business. It is inevitable that both the seller and purchaser will require legal and accounting advice regarding the business sale. These services will range in price and will, in most occasions, be scaled to the size of the business and complexity of the arrangements. Fees associated with these services should also be budgeted for.
The costs involved in a business purchase vary depending on the nature of the business. The costs outlined above are just some key considerations and are not exhaustive of what may be involved. If you are considering purchasing a business, it is important to seek appropriate legal advice about the contract and your liability for these expenses before you sign.
Daniel Dash and Zahra Rashedi are part of the commercial law team at NB Lawyers – lawyers for employers working with individuals and business owners on a range of matters including business sales, property disputes, estate disputes, shareholder agreements, intellectual property, litigation and taxation matters.