What is a bulk sale clearance certificate, and how is a bulk sale clearance certificate related to a Pennsylvania real estate transaction? In Pennsylvania, a bulk sale clearance certificate must be obtained in all transactions involving the sale of fifty-one or more percent of the assets of a business, including real estate. Because it is common for property owners to create single purpose entities to own the real estate, bulk sale clearance certificates are required in many real estate transactions, since the real estate represents the sole asset (i.e., 100%) of the assets owned by such SPE. A bulk sale clearance certificate from the Pennsylvania Department of Revenue verifies that a particular entity satisfied all tax obligations due to the Commonwealth of Pennsylvania, including taxes, interest, penalties, fees, charges and any other liabilities up to and including the date of transfer.
Moreover, under 69 P.S. § 529, every corporation, joint-stock association, limited partnership or company organized under the Commonwealth of Pennsylvania or any other state that engages in business in the Commonwealth of Pennsylvania which sells in bulk fifty-one percent or more of any stock of goods, wares or merchandise of any kind, fixtures, machinery, equipment, buildings, or real estate, shall give the Department of Revenue ten days’ notice of the sale, prior to the completion of the transfer of such property.
To provide proper notice and comport with Pennsylvania law, the seller must file form REV-181, the Application for Tax Clearance Certificate, with the Pennsylvania Department of Revenue and the Pennsylvania Department of Labor and Industry ten days before the closing of the sale. A copy of the agreement of sale and preliminary settlement statement should be included with the Application for Tax Clearance Certificate. (Note, however, that the Department of Revenue often requests re-submission post-closing so that all closing information and interim tax returns through the date of closing may be submitted). In addition, all such entities must file all state tax reports with the Department of Revenue to the date of the proposed closing on the transfer of property and pay all taxes and unemployment compensation contributions due to the Commonwealth of Pennsylvania through the date of closing. If all state tax reports have been filed and if all state taxes and unemployment compensation contributions are paid up to the date of the proposed transfer, the State issues a clearance certificate to the seller, which is then provided to the buyer.
Sounds straightforward, right? But, it can take more than a year for the Department of Revenue to issue bulk sale clearance certificates. Buyers cannot possibly be expected to wait this long before proceeding with the transaction. Thus, it is common that the seller will indemnify the buyer for all state tax liabilities, including under bulk sales laws. An example of an indemnification provision is as follows:
“If so required under applicable law, as soon as practicable prior to Closing but in no event later than the time required by the laws of the Commonwealth of Pennsylvania, Seller shall apply for a Bulk Sales Clearance certificate to be issued by the State Department of Revenue (the ‘Certificate’) and, upon receipt thereof, deliver the Certificate to the Buyer. At closing, Seller shall deliver to Buyer a letter from Seller’s independent accountant stating that to the best of the accountant’s knowledge, all corporate tax returns and other filings required to be submitted by the Seller to the Commonwealth on or before the date of Closing have been filed, and all sums payable by the Seller to the Commonwealth as shown on such returns have been paid. Seller hereby agrees to indemnify and hold Buyer and its successors and assigns harmless from and against any liability that Buyer may have for any taxes, interest, or penalties payable to the Commonwealth arising under any law related to bulk sales, together with all costs and expenses, including reasonable attorneys’ fees and accountants’ fees, related thereto, in accordance with the indemnification procedures herein provided. The provisions of this Paragraph shall survive Closing.”
Now that the seller has agreed to indemnify the buyer for all state tax liabilities, the buyer is fully protected, correct? Not so fast…. As previously mentioned, many real estate transactions involve single purpose entities, therefore, after the sale, the entity will likely not own any assets. If the entity no longer owns assets, seller’s agreement to indemnify buyer may not be worth more than the piece of paper it is on. Stated differently, if the entity does not have sufficient assets to pay its tax liabilities to Pennsylvania, Pennsylvania may instead look to the buyer for the payment of such taxes.
What else can the buyer do to protect itself, then? In this scenario (e.g., when single purpose entities are involved or there exists concern that the seller will be unable to pay the obligations when due), the buyer may seek (i) a personal guaranty from the principals of the seller, and/or (ii) to hold a portion of the purchase price in escrow until receipt of the bulk sales clearance certificate from Pennsylvania, with such funds available for use to pay any tax obligation arising under the bulk sales law.
The parties to a real estate transaction should communicate these issues at the outset of the deal and incorporate any required terms into the agreement of sale to avoid bulk sales headaches on the eve of closing. Contact your lawyer to discuss bulk sales laws relating to your transaction in Pennsylvania and to determine how to best protect your interests.