Selling a Franchise Business Without Losing the Sale to a Tax Holdback

The situation

Arman had built a multi-unit franchise business over close to twenty years, growing from a single location to a group of restaurants operating under a national franchise brand. In his early sixties and ready to retire, he had found a buyer without needing to list the business publicly: Arjun, another multi-unit franchise owner looking to expand his own portfolio into the region, together with his brother Nikhil, who would hold a minority stake in the buying company. The two sides agreed on a price of roughly $6,500,000 for the operating corporation, reflecting the value of the locations, the equipment, the leases, and years of steady cash flow.

Because Arman's restaurants operated through a single corporation that held the franchise agreements, the leases, and the employees, the deal was structured as a share purchase rather than an asset purchase: Arjun and Nikhil's new holding company would buy all the shares of Arman's corporation outright, rather than buying the individual assets out of it. A share purchase is usually simpler for a franchise business, since franchise agreements and leases often restrict who they can be assigned to, and buying the shares avoids having to get the franchisor's and every landlord's consent to reassign each one. Arman came to Treadstone Law once the price was agreed, wanting the sale documented and closed cleanly before a target date roughly four months out.

The tax exposure buried in a share sale

What Arman did not fully appreciate at the outset is a feature of every share sale: when a buyer purchases the shares of a corporation, they are buying the corporation itself, with its full history attached. Every tax filing, every remittance, every liability the corporation has ever incurred travels with it. If the Canada Revenue Agency later reassesses the corporation for a period before the sale closed — unpaid corporate income tax, an HST shortfall, an error in payroll source deductions withheld from employees' pay — that reassessment is issued against the corporation as it exists after closing, now owned by Arjun and Nikhil, and managing it becomes their problem unless the purchase agreement's indemnity shifts the cost back to Arman. Arman is not entirely out of reach either: for unremitted payroll deductions and HST specifically, the CRA can assess a director personally, and having since resigned as a director does not by itself end that exposure.

Buyers know this, and it is standard for a buyer's lawyers to ask for a holdback: a portion of the purchase price kept back from the seller at closing, held in escrow for a period of time, to cover exactly this kind of pre-closing liability if it surfaces later. Arjun's lawyers opened with a holdback proposal of roughly $975,000 — about fifteen percent of the price — to be held for an extended period, well beyond how long Arjun's lawyers said they needed to feel comfortable the CRA would not reassess the corporation for anything from before closing. For Arman, that meant potentially waiting years after closing to see nearly a million dollars of his retirement proceeds, with no way to predict whether or when it would actually be released.

A broad, long, open-ended holdback like that is often a starting position rather than a fixed demand — buyers ask for maximum protection and expect to negotiate down. But negotiating down blind, without knowing what was actually in the corporation's tax history, would have meant either accepting real risk of a smaller number that turned out to be too small, or spending months arguing over a figure neither side could actually justify. We told Arman the more useful path was to find out exactly what the corporation's tax position looked like before responding to the holdback demand at all.

What we did

1. Reviewed the corporation's tax filing history before the buyer's lawyers did. Whoever finds a problem first controls how it gets framed — a seller who surfaces an issue looks careful, while the same issue found by the other side during due diligence looks like something that was hidden. We had Arman's bookkeeper pull HST filings, payroll remittance records, and corporate tax returns for the prior several years and went through them line by line, rather than waiting for due diligence requests to surface problems on the buyer's timeline.
2. Found a genuine gap. Three years earlier, the corporation had switched bookkeeping systems, and one quarterly HST return had been filed late and understated, leaving roughly $34,000 in unremitted HST outstanding, plus interest that had been quietly accruing since. It was a bookkeeping transition error, not concealment, but it was real, and it was exactly the kind of item a holdback is designed to catch.
3. Had the corporation file the correction and pay the balance before the deal went further. Disclosing a problem without fixing it still leaves a buyer's lawyers with an open question to price into their holdback demand; fixing it first turns the same fact into a closed one. We arranged for the corporation to file an amended HST return and pay the outstanding amount plus roughly $2,000 in accrued interest — about $36,000 total — well before closing, rather than leaving it to be discovered mid-negotiation or after the sale.
4. Requested a clearance certificate confirming the corporation's account was current. A seller's word that a problem is fixed carries little weight against a buyer's lawyers who are paid to be skeptical of exactly that kind of assurance. Once the correction was filed and paid, we obtained a statement of account from the CRA showing no outstanding balance owing, and provided it directly to Arjun's lawyers as part of the disclosure package, rather than waiting to be asked — giving them something documented to rely on instead of a promise.
5. Negotiated the holdback down to match the verified risk. With a clean, documented tax history behind the corporation, we pushed back on the original $975,000, three-year proposal. We agreed to a holdback of about $350,000, held in escrow for six months after closing — enough time for any final HST assessment period to close out, but nowhere near the multi-year window the buyer's lawyers had first proposed.
6. Built specific release terms into the escrow agreement. Rather than leaving release conditions vague, the agreement set out exactly what would trigger release of the holdback — confirmation that no further reassessment had been issued by the end of the six-month period — so Arman knew precisely when to expect the balance, instead of an open-ended standard based on the buyer's discretion.
7. Included a standard indemnity for anything the holdback didn't cover. A six-month holdback is a reasonable match for a known, resolved issue, but it cannot promise that nothing else from the corporation's pre-closing history will ever surface once the escrow is released. In case any pre-closing tax liability did surface after the holdback period ended, the agreement included a time-limited indemnity from Arman personally, capped at a defined amount, so both sides had a clear, bounded understanding of who was responsible for what, rather than indefinite exposure on either side.

The outcome

The sale closed on schedule, roughly four months after Arman first came to Treadstone Law. Arman received about $6,150,000 at closing — the agreed price less the $350,000 holdback — instead of having close to a million dollars tied up for as long as three years. Six months later, with no further reassessment issued and the escrow period expired cleanly, the holdback released to Arman in full, exactly on the date the escrow agreement had fixed for release.

The $36,000 HST correction, uncomfortable as it was to surface, turned out to be the reason the rest of the deal moved quickly. Because it was found and fixed before the buyer's lawyers went looking, Arjun and Nikhil's team had verified, documented comfort instead of an open question to negotiate around — and a seller who had gotten ahead of a problem instead of one who might be hiding others. Arman's retirement proceeds arrived close to schedule rather than dribbling out over years, and the corporation Arjun and Nikhil took over came with a clean tax history rather than an unresolved liability sitting on the books for whoever eventually had to deal with it.

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