Baldwin Haspel Burke & Mayer LLC

Article: Nuances of Acquiring a Louisiana Based Company

Jason Alley, Zach Jones and Matt Miller - 

The prominence of the energy sector in the State of Louisiana has made the acquisition of Louisiana-based companies appealing to many investors.  However, before making an equity investment in the State of Louisiana, investors should familiarize themselves with certain nuances that make the acquisition of a Louisiana-based business unique.  While there are numerous factors that make Louisiana law unique (e.g., Louisiana is a civil law jurisdiction), this article focuses on two particular issues that arise in almost every business acquisition transaction:  1) state taxation; and 2) noncompetition and nonsolicitation.

State Taxation

The State of Louisiana imposes an income tax on Louisiana residents, and non-residents that earn income within the State’s borders, with a top marginal tax rate of six percent. [1]  Whether income is subject to Louisiana tax depends upon the residence of the taxpayer and the location of the services rendered or business transacted if the taxpayer is not a Louisiana resident.   Well-advised Louisiana resident business owners realized that they could avoid the Louisiana income tax on the sale of their Louisiana business by relocating their personal residence prior to the sale of their business to the State of Texas or the State of Florida which do not impose an income tax at the state level.  Eventually, the State of Louisiana caught on to that relocation scheme and took action, but in a positive pro-business way.

In 2007, the Louisiana Legislature introduced La. Rev. Stat. 47:293(9)(a)(xvii) which provides resident individuals with an exclusion from Louisiana state income tax of amounts of “income from net capital gains, which shall be limited to gains recognized and treated for federal income tax purposes as arising from the sale or exchange of an equity interest in or substantially all of the assets of a nonpublicly traded corporation, partnership, limited liability company, or other business organization commercially domiciled in [Louisiana].”  The goal of the legislation was to keep Louisiana residents from relocating prior to the sale of their Louisiana business; however there are unintended consequences.

While attempting to preserve the tax base of residents selling their Louisiana business, the State of Louisiana has inadvertently increased the tax discrepancy between an asset sale and a stock sale of a Louisiana-based business.  To fully understand this discrepancy, the exclusion must be reviewed closely.

To qualify for the exclusion, income must be taxed at the net capital gains rate at the federal level.  Also, such income must be derived from the sale of an equity interest or substantially all of the assets of a Louisiana business.   Income derived from the sale of an equity interest in a Louisiana business will be taxed at the federal net capital gains rate to the extent that such equity interest has been held by the taxpayer for  greater than one year.[2]  Thus, if a Louisiana resident sells the equity interest in a Louisiana based company that they have held for  greater than one year, the exemption will apply to all income derived from the sale.  However, when a sale is structured as an asset sale, not all of the proceeds will necessarily be taxed at the federal net capital gains rate.

The income derived from the sale of substantially all of the assets of a Louisiana-based company will be taxed at the federal net capital gains rate to the extent that the assets were held by the taxpayer for  greater than one year, are capital assets and had not been previously depreciated by the taxpayer.[3]  If the taxpayer had previously been allowed a depreciation deduction under IRC § 167 that relates to the asset being sold, gain realized on the sale of that asset is taxed first at federal ordinary income rates to the extent of the depreciation deductions and then at federal net capital gains rates.  The income taxed at the federal ordinary income tax rates is not “net capital gain” as described in La. Rev. Stat. 47:293(9)(a)(xvii) and is therefore not eligible for the exemption.  Thus, in the State of Louisiana, a business owner not only has to account for the increased federal tax cost of recapture in an asset sale, but also has to account for an increase in Louisiana state tax due to a transaction being structured as an asset sale.

This increased tax cost has caused many sellers of Louisiana businesses to require buyers to “gross-up” the sales proceeds for a transaction structured as an asset sale as opposed to an equity sale.  Furthermore, many buyers are forced to take into account the Louisiana state tax difference when considering a section 338(h)(10) election if the seller of an S corporation requires the buyer to “gross-up” the sales proceeds as a condition for agreeing to this joint election.  This item is an increased cost of the transaction and should be considered by all parties before negotiating a sales price.

Louisiana Noncompetition and Nonsolicitation Statute

Louisiana has a long-standing public policy disfavoring noncompetition agreements, especially those between employers and employees.  The current Louisiana statute, La. Rev. Stat. 23:921, governing noncompetition agreements and nonsolicitation of customers was adopted in its current form substantially in 1989[4] and later amended in 2003.[5]  La. Rev. Stat. 23:921 is based on strong public policy concerns to restrict noncompetition agreements to protect an individual from a contractual inability to support himself/herself and such individual’s family and consequently becoming a public burden.[6]  As such, noncompetition agreements governed by Louisiana law are strictly construed against the party seeking enforcement of the agreement.[7]

La. Rev. Stat. 23:921(A)(1) begins with a general prohibition that every contract or agreement by which anyone is restrained from exercising a lawful profession, trade or business of any kind shall be null and void except for those agreements which meet the exceptions set forth in the statute.  La. Rev. Stat. 23:921(B) governs persons, including corporations and their shareholders, who sell the goodwill of a business.  In Louisiana, the sellers of the goodwill of a business may agree to refrain from carrying on or engaging in a business similar to the business being sold or from soliciting customers of the business being sold within a specified parish or parishes, so long as the buyer carries on a like business, for a period of two years from the date of sale.[8] 

Thus, the key statutory requirements for restricting a seller via a noncompetition or nonsolicitation agreement are as follows:

Most Louisiana courts require a specific list of the parishes or municipalities in which the seller is prohibited from carrying on business to be attached to the noncompetition agreement.  However, some courts only require that the parish be identifiable.[9]  An agreement that restricted a president of a drilling equipment company from conducting business in all sixty-four Louisiana parishes, Texas, Mississippi, Alabama and Florida was held to be overbroad and thus was null and void because the court was not able to reform it.[10]  The parishes specified in a noncompetition agreement should be parishes in which the ex-employer or buyer actually has a location or a customer as employers and buyers are not permitted to restrict former employees or sellers in markets in which the employer or buyer does not operate.[11]

As the statute provides, the duration for a noncompetition agreement for a seller of a business should be limited to two years.  Prior to the adoption of the current statute in 1989, Louisiana courts upheld noncompetition agreements with durations for longer than two years, but this is now a well-settled area of law.  In a transaction involving rollover equity or where the seller will also be an employee of the buyer after the transaction, it is common for the seller to have an employment agreement.  The employment agreement or independent contractor agreement can have a noncompetition clause with a different restrictive period.  La. Rev. Stat. 23:921(C) provides that the maximum duration for a noncompetition or nonsolicitation clause in an employment agreement or an independent contractor agreement is a period not to exceed two years from the date of the last work performed under the written contract. 

La. Rev. Stat. 23:921(B) requires that the restricted business and the business conducted by the buyer be similar.  Some courts in Louisiana have required that the noncompetition agreement contain an explicit definition of the restricted business[12], while others did not require a definition of the restricted business.[13] 

It is common for a noncompetition agreement to include nonsolicitation provisions restricting a seller from soliciting the customers of the buyer and the seller’s former employees.  La. Rev. Stat. 23:921 does not expressly govern the solicitation of employees, but rather only governs the solicitation of customers.  However, the vast majority of cases since the 1989 amendment have found clauses prohibiting the solicitation of employees to be enforceable under Louisiana law.[14] 

Depending upon the court in Louisiana and the scope of a severability or reformation clause, some courts will reform and enforce the noncompetition agreement[15], while others will strike the entire noncompetition agreement or provision rather than reforming it.[16]

La. Rev. Stat. 23:921(H) also provides that the failure to comply with an enforceable noncompetition agreement entitles the enforcer to recover damages for the loss sustained and the lost profits.  Additionally, a court can grant injunctive relief without the necessity of proving irreparable injury, which is one of the usual requirements for obtaining a preliminary injunction. 

Because Louisiana has such a strong public policy which disfavors noncompetition agreements, it is essential that the drafter of the noncompetition agreement strictly comply with La. R.S. 23:921.  Thus, the drafter should limit the duration to that timeframe contained in the statute, list the parishes which are restricted with specificity[17], define the restricted business and include a severability or reformation clause. 

Conclusion

Louisiana is the only state in the United States that is a civil law jurisdiction.  However, if the nuances of Louisiana law are properly navigated, the acquisition of a Louisiana-based business can be very profitable for investors.  In addition to the nuances discussed in this article, investors should seek advice in other unique areas such as real estate, property taxation, and employment law.  The pro-business attitude of Louisiana lawmakers continues to manifest itself and, with the proper guidance, investors are in a position to make Louisiana businesses a profitable portion of their portfolio.

________________________________________________________________

[1]La. Rev. Stat. 47:31.

[2] IRC § 1(h).  However, see IRC § 751 which requires that funds received for a partnership equity interest that relate to unrealized receivables or inventory items be taxed at ordinary income tax rates.

[3] IRC § 1245.

[4] La. Acts 1989, No. 639, §1.

[5] La. Acts 2003, No. 428, §§1 and 2.  The statute has been further amended, but the text of the current statute derives mainly from the 1989 and 2003 acts.

[6] Bell v. Rimkus Consulting Group, Inc. of Louisiana, 983 So.2d 927 (La.App. 5 Cir. 3/25/08).

[7] Advance Products & Systems, Inc. v. Simon, 944 So.2d 788 (La.App. 3 Cir. 12/6/06).

[8] La. R.S. 23:921(B).

[9] Monumental Life Ins. Co. v. Landry, 846 So.2d 798 (La.App. 3 Cir. 2/19/03).

[10] H.B. Rentals, LC v. Bledsoe, 24 So.3d 260 (La.App. 3 Cir. 11/4/09).

[11] Vartech Systems, Inc. v. Hayden, 981 So.2d 747 (La. App. 1 Cir. 12/20/2006).

[12] LaFourche Speech & Language Services, Inc. v. Juckett, 652 So.2d 679 (La.App. 1 Cir. 3/3/95); Daiquiri’s III on Bourbon, Ltd. v. Wandfluh, 608 So.2d 222 (La.App. 5 Cir. 1992).

[13] Vartech Systems, Inc. v. Hayden, 981 So.2d 747 (La. App. 1 Cir. 12/20/2006), Baton Rouge Computer Sales, Inc. v. Miller-Conrad, 767 So.2d 763 (La.App. 1 Cir. 5/23/00), Ticheli v. John H. Carter Co., Inc., 996 So.2d 437 (La.App. 2 Cir. 9/17/08).

[14] John Jay Esthetic Salon, Inc. v. Woods, 377 So.2d 1363 (La.App. 4 Cir. 12/11/79), National Oil Service of Louisiana, Inc. vs. Brown, 381 So.2d 1269 (La.App. 4 Cir. 2/7/80), CDI Corporation v. Hough, 9 So.3d 282 (La.App. 1 Cir. 3/27/2009).

[15] AMCOM, Inc. v. Battson, 670 So.2d 1223 (La. 1996), Moreno and Associates v. Black, 741 So.2d 91 (La.App.3 Cir. 1999), Henderson Implement Co., Inc. v. Langley, 707 So.2d 482 (La.App.3 Cir.2/4/98).

[16] Team Environmental Services, Inc. v. Addison, 2 F.3d 124 (La. 1993), Comet Industries, Inc. v. Colvin, 600 So.2d 89 (La.App. 2 Cir. 5/13/92), Action Revenue Recovery, L.L.C. v. eBusiness Group, L.L.C., 17 So.3d 999 (La.App. 2 Cir. 8/19/09).

[17] To be safe, it is a good idea for the buyer to list only those Louisiana parishes in which the buyer conducts business.


  |  

Meritas

Connect with us