Complexities of stock deals in M&A transactions.

• Author: Monroe, Tracy J.
• Position: Mergers and acquisitions

CPAs rarely, if ever, should expect to see a taxable acquisition structured as a stock purchase. The primary reason is that the buyer will inherit both the known liabilities of the acquired business as well as the unknown liabilities of the acquired business, and it would not receive a step-up in the basis of the assets purchased for federal tax purposes. But never say never.

A number of years ago, there was a shift from transactions structured as asset acquisitions to the purchase of stock treated as a purchase of assets. Under Sec. 338(h)(10), a corporate buyer in conjunction with the seller may make an election to treat the purchase of stock of the target corporation as an asset acquisition where the gain is reported on the target corporation's consolidated return or by the shareholders of an S corporation. Sec 336(e) allows for similar treatment if the buyer is not a corporation. When this is coupled with the ability to treat stock acquisitions as asset purchases under federal tax law, a basis step-up is achieved.

Likely reasons for the shift in structure to stock acquisition is attorneys have become more comfortable in drafting representations and warranties to cover any adverse effect from acquiring unknown liabilities and the availability of "reps and warranties" insurance. In addition, a stock acquisition simplifies the transfer of various business agreements, contracts, licenses, etc., to the buyer group since a stock acquisition does not create a legal change in ownership of these underlying rights.

However, many recent transactions in the author's practice have been structured as a taxable acquisition of stock with no elections under Sec. 338(h)(10) or 336(e). In these instances, the buyer may be a private-equity firm that wants to avail itself of Sec. 1045 rollover treatment, or it has not-for-profit investors that are unconcerned with the potential double tax; or the target may have depreciated assets or tax attributes the buyer wishes to preserve; or the buyer cannot qualify for the election under Sec. 338 because the target is a standalone C corporation. In addition, the seller may want to avail itself of the gain exclusion provisions under Sec. 1202 or have the opportunity to do a Sec. 1045 rollover. Whatever the reasons are for the shift in structure, the end result is complexities that many tax practitioners are not familiar with handling. Further complicating this scenario is FASB Accounting Standards Codification Topic...