Fix the problems before you sell

When you have an interested buyer, they will almost certainly perform due diligence on your company. This process is intended to understand the business and quantify any economic risks, ensuring that these risks are borne by the vendor where possible. If significant issues are found, they can substantially affect the sale price or alter the transaction structure. For example, the purchaser may insist on buying the assets of the business rather than shares, impacting the net proceeds after tax. Such findings can also prolong the sale process and diminish the buyer's confidence, potentially jeopardising the transaction.

Key tax areas to consider

While significant corporate tax issues might emerge from purchaser due diligence, this is generally unlikely for companies that have received professional corporate tax advice. More frequently, unexpected problems arise in the area of employee tax. These issues often relate to large aggregate sums, compounded over time, and may not receive as much scrutiny as corporate tax filings. Any liabilities for Pay As You Go (PAYG) withholding tax, superannuation guarantee charge, or fringe benefits tax (FBT) will rest with the company. If these liabilities are substantial, they could significantly reduce the company's value and, consequently, the sale price.

Employment tax areas

Two areas where unexpected issues can arise are Employee Share Schemes and the attribution of income under Australia's general anti-avoidance rules:

1. Employee Share Schemes (ESS): When employees acquire shares or options, the expectation might be that any gains upon sale would result in a personal capital gains tax liability, with no tax liability for the company. However, if the shares or options are part of an ESS, the gains could be recharacterised as ordinary income, leading to PAYG withholding and FBT liabilities for the company. Significant employee shareholdings can result in considerable liabilities upon sale.
2. Disguised remuneration: Similar to the UK's rules, Australia's tax laws prevent schemes that disguise remuneration as loans or other non-taxable benefits. If such schemes are uncovered, they can result in the reclassification of these payments as salary or wages, incurring PAYG withholding and FBT liabilities. These areas are complex, and oversights can lead to unexpected issues during due diligence.

Broader risk considerations

Recent experiences highlight other areas that can delay or disrupt transactions, impacting both the price and attractiveness of the deal. These include:

• Contractor Payments (Personal Services Income): Ensuring payments to contractors are correctly classified, especially in light of the Personal Services Income (PSI) rules, is crucial.
• Vehicle Benefits: Understanding the FBT implications of providing vehicles to employees, and ensuring compliance with FBT reporting and payment requirements.
• Dividends vs. Earnings: Proper classification of payments as dividends, ensuring they come from distributable profits and align with the correct share class.
• Directors' Loans: Ensuring any loans to directors are reported correctly and comply with Division 7A of the Income Tax Assessment Act 1936.
• National Employment Standards (NES) Compliance: Ensuring compliance with NES, including proper payment of wages and entitlements.
• COVID-19 Support Measures: Verifying that any JobKeeper payments or other COVID-19 support were claimed correctly, as the Australian Taxation Office (ATO) continues to review compliance.
• Payments to Related Parties: Ensuring that payments to family members or related parties are commensurate with the work performed and properly documented.
• Non-Executive Director Payments: Ensuring payments to non-executive directors are correctly classified and taxed, considering the recent focus on the proper treatment of these payments.

What's Next?

Vendor or sell-side due diligence allows vendors to identify potential issues in their business and address them before the sale process begins. Alternatively, these issues can be disclosed and presented transparently to potential buyers. This proactive approach helps prevent disruptive and damaging surprises during the transaction.

If you would like to discuss any aspect of vendor due diligence, please contact your usual Forvis Mazars advisor or our financial advisory experts.

Please note that this publication is intended to provide a general summary and should not be relied upon as a substitute for personal advice.

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