Restaurant Law Blog

Monday, February 20, 2012

Red Flags When Purchasing a Restaurant

Owning your own restaurant can be extremely rewarding if you are able to navigate your way through the labyrinth of industry pitfalls.  If I could offer one piece of advice, it would be to tread carefully.  While the list of considerations, complications and requirements are exhaustive, a few key areas merit discussion. 

1.  Lease Agreement.  When buying a restaurant you will either be assigned the Seller’s lease agreement, or have to execute a new lease with the landlord.  One potential benefit to an assignment might be that the Seller has a long term lease at a favorable monthly rate which you would inherit, whereas a new lease might require a significantly higher monthly rent more in-line with the prevailing market.  Conversely, an assignment rarely permits you to re-negotiate any of the Seller’s lease terms, so careful review of the existing lease is critical.  Often, lease agreements contain hidden charges, obligations and restrictions on alienation that make an otherwise favorable lease, prohibitive.  

2.  Sales Tax Issues.  If a Seller is looking to leave their business because of financial difficulties, carefully examine every aspect of their business.  Restaurant ownership is notoriously difficult and known for having a lot of unreported income.  When buying a business you have a choice between buying the business (i.e. “business structure”) or just the business assets.  Buying the assets alone, however, does not protect a Buyer from the Seller’s sales tax debits.  By law, all asset purchases must be reported to the Tax Department for review which typically takes 90 days.  After review, the Tax Department will issue to the Buyer a waiver of all sales tax debts the Seller may have.  Keep in mind that many restaurants do not report, or severely under report cash so that they have to pay less in sales tax.  As a Buyer, fail to notify the Tax Department and you could become personally liable for the Seller’s tax debts.  Audits often take place years later when the previous owners are long gone.  For that reason, consider hiring a competent small business accountant to review the restaurant’s books to ensure that you are not buying into a major sales tax liability.

3.  Seller’s Contracts.  As with sales tax obligations, a Seller’s contractual obligations can be passed on to Buyer even where Buyer only acquires Seller’s assets.  The law requires Buyers to notify all  of Seller’s creditors of the anticipated sale so as to preserve creditors’ rights, if any, in the Seller’s assets.  A Buyer which fails to issue such notices runs the risk of being sued by such a creditor.   

4.  Seller’s Liquor License.  Unlike New Jersey, you cannot sell a liquor license here in New York.  Buyers often tell me that the Seller will transfer their liquor license to them, but that is a misnomer.  All liquor license applications have to be approved by the State Liquor Authority and the review consists of an evaluation of the premises, its use and operation, the applicant’s criminal and financial history and much more.  In other words, the State Liquor Authority is extremely cautious when issuing liquor licenses and does not permit quick and easy transfers.  A transfer application is identical to any other application.  The fees are the same, as are the hoops that must be jumped through.

5.  Equipment.  Closely inspect the restaurant’s equipment to ensure that it is owned by the seller and in good shape. Restaurant equipment can be extremely expensive to replace and often restaurant equipment is under lease or collateral for a loan. If the restaurant contains a kitchen full of equipment that is nearly worn out, that will make a major difference in the value of the business.  Be sure to have your attorney perform a UCC lien check to ensure that no creditor has placed a lien on the equipment, which often is the case.  If you acquire the property and fail to check for UCC liens, you become responsible. 

Attorney James DiPasquale

DiPasquale Law Group

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