This post originally appeared on tBL member Mark Chase's blog Restaurant Real Estate Advisors Blog and is republished with permission. Find out how to syndicate your content with theBrokerList.

selling a restaurant what is escrow

By this point in the sales process, you have negotiated with your buyer and reached an agreement about the condition of the premises and your price. It’s now time to close in on the final stage of your sale: Escrow.

In this tutorial, you will:

  • Open escrow to protect you and your buyer during the sale
  • Comply with Bulk Sale Laws
  • Request Lease Assignment
  • Schedule a final walk through, close escrow, and complete your sale

This is the endgame of selling a restaurant. If you’ve conducted the sale’s prior steps carefully, this final stage should be relatively quick and easy. By the end of it, your restaurant will have a new owner and you’ll have your proceeds.

Let’s begin with escrow basics.

What is escrow?

Escrow is a neutral third party used to protect all parties in a transaction. The escrow officer will follow the directions provided in the Purchase Agreement, take care of disbursing funds, ensure that all creditors are paid, and ensure that the buyer receives title free of any liens.

What about states that don’t use escrow?

Not all states use escrow. In some states an attorney, title company or real estate broker handles all or a portion of the transaction. The website below provides an overview of the procedures used in each state.

List of States that Don’t Use Escrow

Opening Escrow

The Buyer or Seller will deliver the Purchase Agreement to escrow and request that escrow be opened. The buyer is required to provide the deposit check to escrow.

The escrow officer will create an escrow account and provide an escrow number and escrow instructions for signature by both buyer and seller.

Escrow will require the following information from the seller and buyer:

From SELLER (Current Owner):

  • Business Name & Address (Exact entity name or individual name)
  • Doing Business As (DBA)
  • All other business names and addresses used in the last 3 years
  • Home/Forwarding Address, other than business address (EDD requirement for post-closing items)
  • Tax I.D. Number (if corporation/entity) or Social Security Number (if individual)
  • Employment Development Department Account Number (If you have employees, we will need the EDD # to order the necessary release from the Employment Development Department)
  • Sales Tax Permit Number (In connection with the State Board of Equalization)
  • Copy of your Sellers Permit
  • Allocation (Breakdown) of the Purchase Price
  • Liquor License Number (If transaction involves liquor license transfer)Contact Information (Phone number and e-mail address)

From BUYER:

  • Deposit to open escrow, as agreed upon, made payable to Escrow Company
  • Buyer’s Name & Address (This must be exact – If Buyer is forming an entity, we will need a copy of the Articles of Incorporation)
  • Forwarding Address, for post-closing items (If different from above)
  • Tax I.D. Number (if corporation/entity) or Social Security Number (if individual)
  • Employment Development Department Account Number (If you have employees, we will need the EDD # to order the necessary release from the Employment Development Department)
  • Contact Information (Phone number and e-mail address)

What Happens in Escrow?

Upon receipt of signed escrow instructions, the escrow officer will publish a Notice of Bulk Transfer in a newspaper regarding the pending sale. This provides notice to any creditors to file any outstanding claims against the seller. Once the notice is filed, creditors have 12 days to file their claim with escrow.

Lease Assignment/ New Lease

The sale will require that you either assign your current lease to the buyer, or that the landlord and buyer negotiate a new lease. The landlord will need to approve the buyer.

The first step is to notify the landlord of your acceptance of an offer to sell the business and request an assignment of lease (or a new lease if applicable). Your lease agreement may provide requirements from the landlord such as a non-refundable fee to consider the assignment.

The buyer should be prepared to provide a credit application and two or three years of tax returns for the landlord’s review. Check with the landlord to see what information will be required and if the buyer needs to use the landlord’s forms or a standard credit application.A sample request for assignment and credit application is provided below.

Note: If the buyer is requesting a new lease, be very specific in the Purchase Agreement that terms of the new lease shall be similar to the existing lease. In most cases the landlord will not agree to provide the buyer more attractive terms and accept less rent than currently provided in the lease.

Landlord approval of an assignment is often the biggest hurdle to selling a restaurant. For many different reasons, the landlord may be slow to respond or may be less than cooperative. If you provide the landlord with a financially strong and experienced buyer and run into a road block, seek the advice of an attorney specializing in commercial lease transactions.

Physical Inspection

The buyer should conduct a physical inspection of the premises as soon as possible. Issues related to the condition of the Premises or equipment are often used as a reason to request a price reduction.

The buyer should provide written approval of the condition of premises and equipment.. In the event that issues are discovered, you can agree to fix the problem, provide a credit to the buyer, or hold firm that the sale price is based on the current condition of the premises and equipment.

At this point either the buyer or seller (or both) can decide not to move forward with the sale.

Liquor License Transfer

If you will be transferring a liquor license, it’s strongly advised that the buyer completes the application with all necessary information as soon as escrow is opened.You will be required to provide certain information and signatures in order for the buyer to submit their application.

The buyer should work with a liquor license specialist to ensure a smooth process.

Tax and Lien Clearances

The escrow officer will obtain clearance certificates from taxing authorities such as the Employment Development Department, Franchise Tax Board and State Board of Equalization.

Any liens recorded need to be paid prior to the close of escrow.State Board of EqualizationIn most escrows, unless the business has been closed and final tax returns have been filed with the State board of Equalization, escrow will be required to hold back a portion of the sales proceeds to pay any taxes that may be due.

Escrow will often review the last two quarterly tax returns to estimate how much money needs to be withheld at the time of closing.

WARNING:

State Board of Equalization is often the cause of delays to close escrow. If the business is closed file your returns as soon as possible. If you are delinquent on taxes notify escrow as soon as possible to determine a course of action to avoid additional delays.

Escrow submits a request for a release from the State Board of Equalization (“BOE”) at the close of escrow because the Seller will need to file his final return and pay sales tax on the fixtures and equipment.

The BOE has 60 days to reply to the request with either a release or demand with any amounts owed.

UCC Search & Tax Lien Search

A UCC-1 financing statement (an abbreviation for Uniform Commercial Code-1) is a legal form that a creditor files to give notice that it has or may have an interest in the personal property of a debtor (a person who owes a debt to the creditor as typically specified in the agreement creating the debt).

Escrow will order a UCC search and tax lien search to determine if there are any creditors or tax agencies that currently have liens on any assets.

Final Walk-Through

A final walk-through should be scheduled a few days before the close of escrow. The Buyer will confirm the fixtures and equipment are all present and in good working condition. If inventory is included in the sale, a value will be determined for the remaining inventory.

Buyer and Seller will notify escrow in writing that they are ready to close escrow. The escrow officer will prepare the closing papers which include the following:

Bill of Sale. For the equipment and fixtures.

Closing Statement. The closing statement provides both buyer and seller a breakdown of the accounting showing the total credits and debits paid by each party. If applicable, certain expenses such as rent or prepaid expenses are prorated.

Promissory Note. If you are providing a loan for part of the purchase price, a promissory note is prepared by escrow and secured by a UCC1 security agreement.

Inventory. If inventory is included ( food, beverages, paper, and supplies), the buyer will pay for these items.

Liquor license transfer. If a liquor license is transferred, escrow will complete the processing of the liquor license.

Once all of the above is complete, escrow will disburse funds and you will provide the keys to the buyer.

Congratulations on the successful sale of your restaurant! If you followed all of the steps provided in this tutorial you should have experienced a smooth transaction.

Did you find this tutorial helpful? Did you run into any issues that should be covered in future editions? I greatly appreciate your feedback, and future sellers appreciate it too.

Cheers!

Mark

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