The California Supreme Court v State Board of Equalization recently upheld the Court of Appeals decision in Beatrice Company. In this decision, it was held that assets transferred to a commencing corporation constitute taxable sales when the transferee assumes liability.
Background
Regulation 1595 states that transfers of assets to a commencing corporation must be solely in exchange for stock in order to be exempt. When encumbered assets or other liabilities are transferred to a commencing corporation in exchange for stock in that corporation, it has been the Board’s opinion the asset transfer is not “solely in exchange of stock.” The assumption of debt by the transferee constitutes consideration to the transferor.
This was challenged by Macrodyne Industries and by Cal Metal Corp. In the Macrodyne case, (Macrodyne Industries v State Board of Equalization (1987) 192 Cal App. 3d 579), the Court of Appeals found that Macrodyne’s transfer of assets to its existing subsidiaries was exempt. Although the subsidiaries assumed the liabilities of the transferred divisions, Macrodyne remained jointly liable for the same liabilities after the transfer. The Appellate Court wrote:
“Since the transfer of the divisions to the subsidiaries had no effect on the liability of Macrodyne, no benefit
was conferred upon Macrodyne by the transfer. There being no consideration, there could be no sale. Where
there is no sale, no sales tax may be imposed.”
In the Cal Metal case (Cal Metal Corp. v State Board of Equalization (1984) 161 Cal App. 3d 759), the court found “the assumption of liability owed by a transferor of property can constitute the consideration of the transfer.” Cal Metal was held as making a taxable transfer even though they also were jointly liable.
The California Supreme Court granted Beatrice’s petition for review in order to resolve the apparent conflict in the above decisions.
In the decision of Beatrice, the Supreme court writes:
“An Agreement to assume liabilities is a contractual promise to perform the obligations of another. If
supported by consideration, it is enforceable notwithstanding the continuing primary liability of the
promisee for the same obligation. It is a benefit to the promisee because the promisee may compel the promisor to
perform, or, if the promisor does not do so, recover damages from the promisor in the amount or value of the
obligations it is compelled to satisfy as the primary obligor. This right to compel another to fulfill the
promisee’s obligations arises from the assumption agreement. That agreement therefore has value equal to
the cost to the promisee of paying its debts or fulfilling its obligations. That value constitutes
consideration within the meaning of section 6006 and Civil Code section 1605….The assumption of liabilities
by Standard Dry Wall (its newly formed subsidiary) constitutes consideration for the transfer of assets from
Beatrice. To the extent that it is inconsistent with this holding, Macrodyne is disapproved.”
The Supreme Court left no doubt that in their opinion the lower court erred in the Macrodyne case. As I mentioned in the last Sales and Use Tax Seminar (and now it is official), do not plan around Macrodyne!
San Diego Taxpayers
As you may know, the San Diego Justice Facility Tax collected from January 1, 1989 to February 13, 1992 was declared unconstitutional by the California Supreme Court on February 14, 1992. The State Board of Equalization recently published various ads, etc indicating that purchasers who paid this tax either directly to the board (use tax) or to a California seller (sales tax reimbursement) would be entitled to a refund. They stated the refund claim should be mailed no later than December 31, 1994 and should be for a minimum of $25 ($5,000 worth of purchases). On January 7, 1994, a restraining order was issued by the Superior Court of San Diego County stopping the State Board of Equalization from advising taxpayers on the procedures for filing claims for refund for this tax. Apparently, the debate is over the $5,000 minimum purchase amount as well as how to refund the excess amount left after all refund claims are satisfied. The State Board of Equalization is appealing this order and will advise taxpayers through local newspapers on the refund procedure. It is apparent that a refund is forthcoming and in the interim consumers should gather receipts for purchases during this period.
