Law Firm Tax Alert

As states are forced to confront continuing budget shortfalls, they are looking for ways to increase revenue.  One of the easiest revenue sources is enforcement of existing tax laws, generally through audit of taxpayers.  Although the Technical Bulletin discussed here applies only to New Jersey taxpayers, we are seeing increasing audit activity in many states.

On January 15, 2013 the New Jersey Division of Taxation issued a Technical Bulletin (TB-69) on taxability of purchases made by lawyers and law firms. The fact that New Jersey issued this bulletin may be an indication that law firms will be the subject of increased audit activity.  Although lawyers practicing in New Jersey are not liable for collecting sales tax on charges for professional services, law firms located in New Jersey are required to pay sales or use tax on all purchases of taxable tangible property, specified digital products, and certain services used by the firm, unless otherwise exempt by law.

We have recently observed increasing New Jersey tax audit activity.  In a typical audit, little time is spent on income tax issues; the main focus of the audit is sales and use tax.  In such an audit, the auditor selects a single year, obtains and reviews copies of your business depreciation and cash disbursement schedules, and requires proof that sales or use tax was paid on each item on the depreciation schedule and selected items on the cash disbursement schedule.  Use tax, penalties, and interest are assessed for all taxable items where tax was not paid.  Based on the single year findings, sales and use tax liability is estimated and assessed for all other open years.   When penalties and interest are added on, the liability can be substantial.

The fact that a provider of a product or service does not collect New Jersey Sales Tax does not relieve the purchaser of the obligation to pay.  Examples of taxable products and services typically purchased by law firms include janitorial services, computer equipment, office furniture, office supplies, pre-written computer software, computer maintenance and service contracts, and detective and private investigation services for discovery purposes.  The bulletin and a full listing of taxable and tax-exempt products and services may be found at http://www.state.nj.us/treasury/taxation/pdf/pubs/tb/tb69.pdf

 

Does Your Buy-Sell Agreement Specify a Standard of Value?

Although the buy-sell agreement could be one of the most important and far reaching agreements that a business can have, it is also the least understood, and most frequently ignored.  When asked about buy-sell agreements, many business owners don't know if they have them, have not ever read them, or don't understand what they say.

We were recently engaged to value a business owned by two brothers.  In order to understand the assignment and prepare an engagement letter, I asked about the standard of value specified in the buy-sell agreement.  The control owner thought that the standard was fair market value, and the minority owner thought that the standard was fair value.  The difference between these standards of value can be substantial.  Is anyone surprised to find out that the agreement does not even address this important issue?

Without going into the technical details, the fair market value standard generally results in a lower value because it considers discounts for lack of marketability and lack of control.  The fair value standard usually results in a higher value because it does not consider such discounts.

In New Jersey,the  fair value standard is used in valuations performed for divorce and shareholder oppression matters.  However, it is not limited to those purposes and may also be used in buy-sell agreement, if specified by the agreement..

Does your buy-sell agreement specify a standard of value?  Do all parties to the agreement understand the standard of value and the result that it will yield?  Do yourself a favor; get out your buy-sell agreement and read it.  If you don't understand what it says, ask your CPA or attorney.  Although it may be a difficult conversation, it will be much more difficult and expensive to address the controversial issues when the agreement is triggered by a retirement or death.

Buy-sell agreements only work if their result is fair to all parties.  Everyone thinks that they will be able to work forever, but that is just not the case.  When the time comes, no one knows if they will be a buyer or a seller.  Ask your CPA to calculate the price of your business, using the provisions of your agreement.  Is the result fair?  If not, it is time to consider changing agreement to yield a fair result.