NOTE: The following article is from the collection of articles in our Automobile Dealership Buy/Sell Newsletters. The newsletter deals with the complex area of buying and selling automobile dealerships. Some of the material may not be up to date because of changes in the law from the date shown at the end of the article. This article is not to be taken as legal, accounting, tax, or other advice. You should consult your own professionals for such advice and for any updating of the information provided.
On occasion, a buy/sell transaction involving dealership assets occurs based upon the seller’s need to escape a business operation which has become a losing proposition. This may be due to a number of factors such as a downturn in the economy or ineffective management.
In this scenario, the seller’s goal is to make the best of a bad situation by selling the dealership assets on as much of a “going concern” basis as possible. Usually the seller has extensive outstanding liabilities including capital loans, equipment leases, and even sales tax obligations.
Normally these loans are secured by a lien against all of the dealership assets which is perfected by the filing of a UCC-1 statement with the California Secretary of State. Unless the financial institution receives sufficient sale proceeds, it will not release its lien on the dealership assets and this prevents the buy/sell transaction from closing since the seller cannot transfer the assets to the buyer with clear title.
A shortage of sale proceeds can be particularly troublesome in a situation where the seller also has substantial outstanding sales tax liabilities. Under California Revenue and Taxation Code Sections 6811 and 6812, the buyer is liable on a successor basis for any amount owed by the seller to the Board of Equalization which is not withheld from the purchase price.
In the face of competing interests, the buyer may be able to negotiate some reduction of the amount that the financial institution will accept in return for a release of its lien on the dealership assets, but the Board of Equalization traditionally takes a position that it will not negotiate downward the amount of sale proceeds which must be withheld by the buyer to satisfy the seller’s outstanding sales tax liabilities.
In this situation, the buyer is not likely to go forward with the buy/sell transaction and the seller may have no other alternative except to file a bankruptcy petition and try to sell the dealership assets subject to the controls and supervision of the United States Bankruptcy Court.
However, as an alternative to the restrictive nature of a bankruptcy proceeding, the buyer and seller should consider an approach referred to as a “friendly foreclosure” to accomplish the transfer of the dealership assets. This approach basically involves the financial institution repossessing the dealership assets and then selling them directly to the buyer for an agreed upon sales price.
The viability of this approach depends upon the buyer carefully determining that clear title to all of the key assets necessary to operate the dealership business will be available as a result of this repossession sale. Also, the buyer must be in a position of having secured or being able to secure anything else that the buyer will need to operate the dealership business including for instance the franchisor’s approval of a new franchise agreement for the buyer, adequate flooring and capital loan commitments from financial institutions, and a satisfactory lease arrangement for the premises where the dealership is to be operated. The buyer’s ability to satisfactorily conclude these matters is especially important because the financial institution conducting the repossession sale may not be willing to sell the dealership assets subject to any contingencies.
The participation of the seller in this repossession sale is also important as the financial institution probably will not make the sale unless the seller confirms in writing that the amount of sale proceeds generated is sufficient to establish the sale as being “commercially reasonable.” Additionally, the seller will most likely be required to confirm the outstanding balance due to the financial institution and confirm the timely receipt or waiver of the appropriate post repossession notices pertaining to the repossessed assets. By requiring these matters to be confirmed by the seller, the financial institution minimizes the potential of subsequent claims or litigation being initiated against it by the seller regarding the repossession sale.
Since the buyer in a repossession sale buys the assets from the financial institution and receives a bill of sale to that effect, the buyer should not be responsible for the seller’s sales tax liabilities. As provided for by state regulation, the obligation of a buyer to withhold proceeds from the purchase price does not apply to “other transfers of business such as assignments for the benefit of creditors, foreclosures of mortgages, or sales by trustees and bankruptcy.”
A potential advantage to the buyer acquiring dealership assets from a financial institution in this manner is that the buyer may not need to assume other obligations of the seller, such as leases of unwanted computer equipment, which typically the seller would insist be assumed as part of a standard buy/sell transaction. In any event, under the right circumstances a “friendly foreclosure” is a viable approach to transfer dealership assets.
This article was written in 1995.