United States

Corporate successor tax liability following a "mere continuation"

TAX ALERT  | 

Background

In certain cases, the IRS has the authority to enforce a tax liability on a transferee in the same manner as it would in respect of the transferor.1 There are two procedures under which the IRS can invoke transferee liability: the deficiency procedures under section 6901; or filing suit under state law. The IRS is generally able to collect a transferor's unpaid tax from a transferee if, under applicable state law or state equity principles, an independent basis exists for holding the transferee liable for the transferor's debts.2 In the case of corporate successors, many states provide a basis for the collection of tax due from a predecessor corporation under the theory of successor liability, based on a finding that the second corporation is a mere continuation of the first.3

In re: All Sorts of Services of America Inc.4

In this opinion, the bankruptcy court held that a corporation can be a “mere continuation” of its predecessor corporation even without an actual transfer of substantially all of its assets. Here, the IRS sought to hold All Sorts of Services of America, Inc., d/b/a “Chimney Cricket”, which was owned by an individual, liable for over a million in back taxes owed by Chimney Cricket, Inc. d/b/a Chimnee Cricket — another company owned by the same individual. While they were two different entities, the court found that the newly organized entity essentially carried on the same chimney sweep business conducted by the predecessor. An important fact in the court’s eye was that both Chimnee Cricket and Chimney Cricket: used the same key employees; operated out of the same location; used a similar trade name and logo; and used chimneycricket.com to generate leads. The court therefore concluded that, even if a transfer of assets was necessary for a successor corporation to be the "mere continuation" of its predecessor, these companies use of the same key assets constituted a "transfer of assets" in and of itself. 

Chimney Cricket argued, in part, that it was not the "mere continuation" of Chimnee Cricket because they did not transfer "substantially all" its assets to Chimney Cricket. The court believed that, even without a transfer of substantially all the assets, there can still be a “mere continuation” claim and thus, successor liability. The court further noted that there was at least some evidence that there was a transfer of assets (essentially the key assets of the business) from Chimnee Cricket to Chimney Cricket. 

M&A considerations

It is not altogether clear that this transaction would have constituted a section 368 reorganization, but it is a cautionary tale that merely failing reorganization treatment does not necessarily operate to defeat successor liability. In that regard, the court might well look primarily to whether the successor entity is, in substance, carrying on the same business as the predecessor by utilizing the goodwill of its predecessor. 

 

 1See Commissioner v. Stern, 357 U.S. 39 (1958); Phillips v. Commissioner, 283 U.S. 589 (1931); I.R.C. section 6901.

2Stern at 44.

3See e.g. Today's Child Learning Center, Inc. v. United States, 40 F. Supp. 2d 268 (E.D. Pa. 1994); WRK Rarities LLC v. United States, 165 F. Supp. 3d 631 (N.D. Ohio 2016).

4In re: All Sorts of Services of America Inc.; No. 8:20-bk-01953.

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