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What changes hands when a business is sold
Buying or selling a business is often the largest transaction an owner makes, and most of what decides whether it goes well is settled before anyone signs. At Equity Law Group we act for buyers and sellers of owner-managed businesses in British Columbia, on share and asset deals, from the letter of intent to closing. We work alongside your accountant on the tax side, and we prepare the elections and closing documents the deal needs.
A business changes hands in one of two ways, and most of the other questions in the deal follow from which one it is.
Share sale or asset sale
In a share sale the buyer buys the company itself. Its contracts, lease, licences and employees generally stay in place, although many contracts and most commercial leases treat a change of control like an assignment, needing consent or letting the other party end them. The buyer also inherits the company's history: its tax filings, its debts and any claims against it, known or not. For a seller who owns the shares personally, shares of a qualified small business corporation may be eligible for the lifetime capital gains exemption, which is not available when the company sells its assets.
In an asset sale the buyer buys the business's assets and largely chooses which liabilities to take on, although some follow the business by law, as the sections below explain; the rest stays with the seller. The buyer can generally claim capital cost allowance on what it pays for equipment and other depreciable property, including goodwill, and the price has to be allocated among the assets, which affects both sides' tax. Each contract, lease and licence has to be transferred or replaced, often with the other party's consent.
Before you buy: due diligence
Due diligence before committing usually covers:
- the minute book, to confirm who owns the shares, that they were properly issued and that the seller has authority to sell
- a Personal Property Registry search: a lender's registered security can follow the assets unless it is discharged at closing
- the financial statements and tax filings, including the GST, PST and payroll accounts, with your accountant
- the lease and the main customer and supplier contracts, and which of them need consent to transfer
- the employees, their terms and their length of service
- licences and permits: some transfer with the business, some need the issuer's approval, and others have to be applied for again
- on an asset purchase, a clearance requested from WorkSafeBC before closing, because unpaid assessments can be collected from a later owner and are secured by a lien on the property used in the business
- whether the seller is resident in Canada: if not, the buyer may have to withhold part of the price unless the seller obtains a certificate from the Canada Revenue Agency
Before you sell: getting the business ready
Buyers discount for uncertainty. Bring the minute book, the annual reports and the transparency register up to date (see business law), and put agreements with key customers and suppliers in writing. Find out what the lease says about assignment, and whether the landlord or the bank holds your personal guarantee: it is not released automatically, so its release has to be negotiated as part of the deal. Plan the tax with your accountant before the letter of intent, because getting shares to qualify for the lifetime capital gains exemption can take time; some of the tests look back 24 months. And have a prospective buyer sign a confidentiality agreement before they see the numbers.
The agreement
Most deals start with a letter of intent, which usually does not bind either side to close but whose confidentiality and exclusivity terms are usually written to be binding. The purchase agreement then settles:
- the price, and how it is adjusted at closing for inventory, working capital and prepaid expenses
- the seller's representations and warranties, how long they survive after closing, and the indemnity if one proves untrue
- the conditions for closing, such as the buyer's financing, the landlord's consent and a satisfactory review
- the seller's promise not to compete with the business or solicit its customers or staff, which courts enforce more readily on the sale of a business than in an employment contract, provided it is reasonable
- any part of the price paid after closing: a holdback against claims, an earn-out tied to later results, or a loan from the seller, which often ranks behind the buyer's lender and should be secured against the business's assets
Tax, employees and consents on an asset sale
If the seller is registered for GST, GST applies to the taxable assets unless the buyer and seller jointly elect under section 167 of the Excise Tax Act. The election is available when the buyer acquires all or substantially all of the property needed to carry on the business, and the buyer must be registered too. PST is payable on equipment, vehicles, software and other taxable goods, including machinery fixed to the premises, unless an exemption applies. It is not payable on inventory bought for resale, goodwill or land and buildings. A buyer who does not obtain a PST clearance certificate can become liable for the seller's unpaid PST.
Employees do not transfer automatically: the buyer decides whom to offer employment, and a unionized workplace may carry its own complexities. Under section 97 of the Employment Standards Act, those who continue with the buyer keep their length of service, and the buyer takes over the Act's obligations to them, including vacation pay already earned. Assigning the lease usually needs the landlord's consent and can leave the seller liable under it unless the landlord releases them, and a franchised business also needs the franchisor's consent.
We work with your accountant on the numbers, and we prepare the elections, consents and closing documents the agreement calls for.
A buyer often incorporates a new company to make the purchase, and a seller may reorganize before selling; see business law. When the business owns its premises, see real estate for the property side. If a deal goes wrong after closing, our litigation team can act on claims under the agreement.
Call us at 604-259-2844 or email us on info@equitylawgroup.ca for further information.
Frequently asked questions
Is it better to buy shares or assets?
Buyers usually prefer assets: they largely choose which liabilities they take on and can claim capital cost allowance on what they pay for equipment. Sellers usually prefer shares: the whole company goes, and an individual selling shares of a qualified small business corporation may be eligible for the lifetime capital gains exemption. The difference is usually settled in the price, with both sides' accountants involved.
Is a letter of intent binding?
Usually not. A letter of intent normally records the price, the structure and the main terms without committing either side to close, although its confidentiality and exclusivity terms are usually written to be binding. In exceptional circumstances, depending on its wording and how the parties act on it, the letter itself can be binding, so have it reviewed before you sign.
Do I pay GST or PST when I buy a business?
Not on a share purchase, although the company stays liable for any GST or PST it already owes. On an asset purchase, GST is payable on the taxable assets unless the buyer and seller make a joint section 167 election. PST applies to equipment, software and other taxable goods, unless an exemption applies, but not to inventory for resale, goodwill or land and buildings.
What happens to the employees when a business is sold?
On a share sale their employment continues: the company is still their employer. On an asset sale the buyer chooses whom to employ, and those who continue keep their length of service under the Employment Standards Act. Employees the buyer does not take on are generally the seller's responsibility, but one who turns down a comparable offer from the buyer may lose the right to notice or pay in lieu. A unionized workplace may carry its own complexities.
Can the seller be stopped from competing after the sale?
Yes, if the restriction is reasonable in area, length and the activities it covers. Courts enforce a seller's promise more readily than an employee's, because the buyer has paid for the goodwill it protects. A restriction drawn too wide can fail altogether, so it should be drafted to fit the business.
Can part of the price be paid after closing?
Yes. A holdback keeps part of the price back against claims under the agreement. An earn-out ties part of it to the business's results after closing. A vendor take-back is a loan of part of the price from the seller. A seller paid over time should take security over the business's assets and, often, a personal guarantee.
How long does it take to buy or sell a business?
Most of the time goes on things outside the lawyers' hands: the buyer's financing, the landlord's consent and any licence transfer. Start those as soon as the letter of intent is signed, because the closing date usually depends on the slowest of them.