Cynthia, my client wants to purchase a small pizza restaurant, he and the seller have agreed on a price. My client does not want to go through escrow. They don’t want the transaction delayed, or to pay their share of fees and costs, what do I tell them?
There are several reasons to go through escrow when selling or purchasing an existing business.
On a basic level, an Escrow Company is a neutral third party, which helps facilitate the terms of an agreement between the buyer and seller. As with any escrow, when the terms are fulfilled, escrow pays out funds to the seller, brokers, vendors, lenders, creditors, etc. Escrow also issues a final settlement statement, which is an important document for buyers and sellers to use after closing, for tax purposes.
With the sale of a business, in addition to the basic escrow duties, the escrow process fulfills the requirements of the bulk sale code found in the California Uniform Commercial Code. The UCC Code spells out what is REQUIRED by State law for the sale of a business.
When a business is sold, creditors of the seller (vendors, suppliers, etc.) have a legal right to be informed. For this reason, a Notice to Creditors form is REQUIRED to be published in a newspaper, and recorded with the County Recorder of the location(s) of the business.
It is also required that the local County Tax Collector of the business location(s) be notified.
By following the requirements of the UCC Code, the buyer gets protection against liability for the seller’s existing debts. Whether or not the seller’s creditors respond to the Notice of Creditors publication, the buyer is still protected.
Escrow also obtains a search for potential loans, equipment financing, and liens and judgments, which may affect the business assets. In the same way, as it would be ill-advised to purchase a home without a title search, it is not wise to purchase a business without checking for liens.
Finally, several government taxing agencies REQUIRE that they are notified of the sale of a business, and failure to do so exposes the buyer to potential successor liability. The taxing agencies include the Franchise Tax Board, Employment Development Department, and the California Department of Tax and Fee Administration (formerly State Board of Equalization).
Occasionally, I have an escrow involving an owner of a business who did NOT go through escrow at the time the business was acquired. During the escrow for the owner to sell the business to a new buyer, the searches revealed the debts of the former owner. Since the current business owner did not follow the UCC Code, including publication of the notice to creditors, the current owner has no protection against old debts of previous owners. Sales of businesses including some type of Alcoholic Beverage Control (ABC) license (liquor or beer and wine), the Department of Alcoholic Beverage Control will always require an escrow.
While it is not uncommon for buyers and sellers to consider forgoing the escrow process on bulk sales, when they do this, they are violating state laws, which are NOT optional. The escrow process typically takes at least three weeks, but it is time well spent to do things right.
I hope the information has been helpful! And, remember, we are here to help in any way we possibly can. So, don’t hesitate to reach out if we can be of assistance.