Tax Due Diligence: CRA Liabilities When Buying a Business

Buyers often worry that they will take on the seller's tax debts along with the business. Sometimes that worry is justified, and sometimes it is aimed at the wrong tool. Many people hear about the CRA clearance certificate and assume it works like a clean bill of health for a purchase.

This article explains the main tax risks in buying an Ontario business, how to check HST, payroll and corporate tax, and what a clearance certificate actually does. It is general information, and the right protections depend on your deal, so have a lawyer and an accountant confirm the details.

Why tax debts follow a business

Source deductions (income tax, CPP and EI withheld from employees, plus the employer's CPP and EI share) and GST/HST collected are deemed held in trust for the Crown. The CRA's claim is secured over all of the business's assets, including its sale proceeds, regardless of security given to other creditors.

The legislation backs this up. For GST/HST, the trust extends to the person's property if the amount is not remitted, and proceeds go to the Receiver General in priority to all security interests. For amounts withheld at source, the trust is separate from the employer's property and extends to property of equal value.

The key practical point is that this claim does not need to be publicly registered, so a PPSA search will not reveal it. You have to look at the CRA side of the picture directly.

How to check HST, payroll and corporate tax

Start by asking the seller for filed returns, notices of assessment, and an authorization that lets you see CRA account information. Then compare what should have been filed and paid with what was.

Penalties show how serious missed remittances are. Late payroll remittances attract penalties of 3%, 5%, 7% or 10% depending on how late, and 20% for a knowing or grossly negligent repeat failure. A separate 10% penalty applies to amounts that should have been withheld but were not, rising to 20% for a repeat knowing or grossly negligent failure, and interest is payable separately.

Keep in mind that the CRA's general record-keeping rule is six years, so you can reasonably ask for at least that much history.

What a clearance certificate does and does not do

A CRA clearance certificate confirms that all amounts due to the CRA have been paid, or that the CRA accepted security for them. It is aimed at legal representatives who distribute assets of an estate, trust or business. A representative who distributes property without first obtaining a certificate is personally liable for the taxpayer's unpaid amounts, up to the value of the property distributed.

The process applies when an estate, trust or corporation is distributing property or winding up, and a corporation that keeps operating may only need a comfort letter. The certificate protects the representative who distributes assets, not a buyer of a continuing business. Be cautious about anyone who suggests that a certificate shields you from the seller's HST or payroll debts.

• The request uses Form TX19 for income tax and, where there is a GST/HST number, Form GST352
• Apply only after the required returns are filed, notices of assessment are received, and taxes owing are paid or secured
• The CRA says not to submit the request at the same time as the returns
• The CRA sends an acknowledgement letter within 45 days, and assessment can take up to 120 days if all documents were provided, longer if there is an audit

Those timelines matter for closing dates. If a certificate is relevant to the seller's wind-up, do not assume it will arrive before you close.

Other ways a buyer can become liable

Share or asset purchase. In a share deal, the buyer inherits the company's liabilities by law, which includes its WSIB history. In an asset deal, a person who acquires an employer's business is liable for amounts the employer owed the WSIB immediately before the disposition. The WSIB can issue a purchase certificate that waives the purchaser's liability for the seller's account charges, but only if the seller's account is in good standing, and it is valid for 30 days from issue. Purchase certificate policy excludes mergers, amalgamations and share purchases.

Directors. Directors can be assessed personally, together with the corporation, for unremitted payroll deductions and GST/HST, which matters if you become a director of a purchased company with a history of unremitted trust amounts.

Non-arm's-length deals. Where property is transferred to a non-arm's-length person, a spouse or common-law partner, or a person under 18, the transferee is jointly and severally liable with the transferor for the transferor's tax debt, limited to the excess of the property's fair market value over the consideration paid. The GST/HST version applies to non-arm's-length transferees such as a family member buying business assets. The CRA says it can assess a third party for a transfer below fair market value only if the transferor had a tax debt in the transfer year or a prior year.

What to do next

• Decide with your lawyer and accountant whether a share or asset purchase suits you, since the exposure differs
• Obtain seller-authorized CRA account statements for payroll, HST and corporate tax
• For an asset purchase, ask the seller to request WSIB purchase certificates and allow for the 30-day validity
• Ask for contract terms such as indemnities and holdbacks for tax found after closing
• Confirm with a lawyer whether any clearance certificate is relevant to your transaction at all
• Build in time, since CRA processing can take months

Indemnities and holdbacks are common practice points rather than fixed rules, so a lawyer can tailor them to the deal.

Frequently asked questions