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  • NegotiatingtheTaxProvisionsofAcquisition(Disposition)

    Agreements

    DanielLeightman GardereWynneSewellHBAM&A SectionMeeting

    November21,2013Houston,Texas

  • RoleOfVariousProfessionalsInTheNegotiationOfTheAgreement

    Outsidelegaladvisor M&AAttorney TaxAttorney

    Inhouseprofessionals CorporateGeneralCounsel TaxdepartmentLegalCounsel SeniorVicePresidentofDeals

    2

  • Hasthiseverhappenedtoyou??

    Readthetaxsectionandgivemeyourthoughts.

    PleasereviewSection1.05ofArticle7andtheTaxSection,Article9

    3

  • THEREISNOTAXSECTION

    4

  • ThereisNoTaxSection

    True,portionsofthecontractwillexplicitlyaddressvarioustaxmatters

    Butalmostanyprovisioninthedocumentcanhavesignificantfinancialimpactstemmingfromtaxation

    5

  • POTENTIALTAXISSUESPERMEATETHECONTRACT

    Line1onPage1DatecontractisexecutedIdentityofSellingandPurchasingparties

    ClosingDate Definitions WarrantiesandIndemnities PegBalanceSheetmechanism Governinglawprovision

    6

  • NegotiatingtheContract

    Alwaysadvantageoustopreparethefirstdraftofthecontract Generally,theBuyerpreparesthefirstdraft Sellershouldpresentdraftcontractwithsolicitationofofferwheneverpossible

    7

  • NegotiatingtheContract

    Neverusefinalcontractfromanotherdealasfirstdraft(finalcontractalwaysrepresentsacompromise)

    AlwaysStartWithaProBuyerorProSellerDraft

    8

  • BuildingTaxPlanningintotheContract

    PurchasepriceallocationInventoryatNetRealizableValue

    StructureofthePurchase BuyersPretransactionbehavior

    9

  • StructuringConclusions

    WheretoputTsbusiness? Singleormultiplepurchasers?

    Foreign/statetaxplanning

    10

  • ManagingTargetsBehaviorPriortoClosing

    Stockoptionexercises Paymentofbonuses Timingofsignificantinterestdeductions DistributionsandPrepaymentsfromForeignSubsidiaries

    11

  • FinancialAccountingIssues

    RoleofPEGbalancesheet Impactondeferredtaxes Stockpurchasev.assetpurchase

    12

  • Reps,WarrantiesandIndemnities

    GeneralIssues

    Surviveclosing Absolutelycorrectormateriallycorrect KnowledgeoftheCompany MinimumsandBaskets

    Separatebasketfortaxliabilities

    13

  • RepresentationsandWarranties

    Representations statementsaboutthepartiesandtheirbusinesses Mechanismforabandoningtransactionifundesirablefactsemerge

    Warranties statementoffactsthatthepartiesstandbehind EnableBuyertofindoutimportantfactsaboutTarget Mechanismforindemnificationforaresultinglossifrepsandwarrantiesareinaccurate

    14

  • RepresentationsandWarrantiesKnowledge

    BuyerwillwantrepresentationstobeabsolutewhileSellerwillwantrepresentationslimitedtoSellersknowledge

    Whoseknowledgematters

    15

  • TaxRepsandWarranties

    Allreturnshavebeenfiled Buyershouldpushforwordtimely Extensionstofileshouldbeallowed

    Shouldbedisclosed BuyersdiligenceshouldprobedeeplyintostatesinwhichTargetdoesnotfile

    16

  • TaxRepsandWarranties

    Paymentoftaxes Alltaxeshavebeenpaidv.taxesshownonreturn

    Accuracyofreturns Returnsarecorrectandcompletev.correctandcompleteinallmaterialrespects

    Taxaudits Auditscompletedthroughaspecificyear Disclosureofissuesraisedthatremainunresolved Disclosureofstatuteoflimitationsextensions

    17

  • TaxRepsandWarranties

    Consolidatedandcombinedreturns BuyerwillwantSellertodiscloseallconsolidatedandcombinedreturnsinanyjurisdictionthatcangiverisetoliabilityfortaxesofothercorporations

    Disclosureofalltaxsharingagreements TargetnotaUSRPHC Taxfreereorganizationrepresentations

    18

  • DefinitionofTaxes

    Taxesshouldbedefinedintheagreement Buyerwillwantbroaddefinition

    Income,property,sales&use,payroll,foreign,exciseandother

    Definitionshouldbebroadenoughsuchthatbasedoftaxisirrelevant(whethertheybeincomeorcapital)

    19

  • TaxIndemnificationProvisions

    Indemnificationforbreachesofrepresentationsandwarranties

    Basketavoidsindemnificationuntiltotalexceedsacertainamount.Amountisusuallynegotiated.

    Amountistobepaidcouldbetheentirebasketortheexcessoverthespecifiedamount

    Taxindemnificationsmayfalloutsideofthebasketforotherindemnifications

    20

  • TaxIssuesShouldHaveASeparateDeadline

    Deadlineforindemnification Contractnormallyprovidesforcutoffoftime Cutoffpointfortaxesandtaxrelatedclaimsshouldbetheapplicablestatutesoflimitations.Thisisoftenlaterthanthecutofftimeforotherindemnifications

    Considerstatuteextensions Taxissuesshouldhaveaseparatedeadline

    21

  • IndemnityofTaxExposures LimitedavailabilityoftimeandresourcesfortaxduediligencecanneverequalfullblownIRSauditwithamultimemberIRSauditteam,18monthtimeframeandsubpoenapoweraswellasmultiplepotentialauditsofstateexposures

    Indemnitynotavailablewithpurchaseofpubliccompany

    Potentialjointandseveralliabilityissueswhenpurchasingprivatecompanies

    Complexitiesofcalculatingtheindemnifiedamount

    22

  • IndemnityofTaxExposureBeneficialToBothSides

    Avoidsreductionofpurchasepriceofferedbecauseoffearofunknowntaxissues(principleappliestoanypotentiallylargecontingency)

    Facilitatesmanageabletaxduediligenceprocess

    23

  • IndemnificationofTaxExposuresKeyIssues

    PotentialroadmapforIRSauditor Indemnifyingpartyshouldmaintaincontrolofaudit

    Appropriateindemnitypayment Repairsv.capital

    24

  • IndemnificationofTaxExposures

    Potentialleverageforthepurchaser

    25

  • TaxAudit&Litigation

    Sellershouldmaintaincontrol Sellershouldhavetherighttoconductandcontrolproceedings(e.g.,theIRS)whenathirdpartyassetsaclaimagainstaBuyerthatcouldgiverisetoanobligationtheSellerwouldberequiredtopay(reimbursetheBuyer)

    Selleristherealpartyininterest Sellershouldbeartheexpenseofdefense TheBuyermaywantsomeinvolvementappropriatelyso

    26

  • TaxTreatmentofIndemnityPayment

    SaleofShares IndemnitypaymentbySellerisanadjustmenttopurchaseprice DeductedascapitallosspursuanttoArrowsmithdoctrine

    Purchaserreducestaxbasisofacquiredshares

    27

  • ArrowsmithDoctrine

    Relationbacktooriginaltransaction Adjustmentofpurchaseprice Contributiontocapital

    28

  • TaxTreatmentofIndemnityPayment

    AssetTransactions DirectsaleofassetsorSection338(h)(10) Sellerreducesproceeds

    CharacterofdeductiondeterminedunderArrowsmith doctrineandapplicationofIRC1060

    BuyerreducesbasisofacquiredassetsinaccordancewithIRC1060

    29

  • Buyerreceivesdeduction(orassetbasis)forexpenditureresultinginindemnitypayment

    RevenueRuling8468 Expensesofoneentitypaidbyanotherentity

    30

    TaxTreatmentofIndemnityPayment

  • TaxTreatmentofIndemnityPayment

    TaxFreeReorganizations (contd) PotentialfatalimpactonBreorgifBuyermakessubsequentindemnitypaymenttoSeller use368(a)(1)(E)insteadofBreorgstructure

    PotentialimpactonnonstockconsiderationinAmergers

    PaymentsfromSellertoTargetdonothavesignificantimpactonTargetbutSellerwouldincreasebasisinsharesreceivedinthetransaction

    31

  • DealingwithCarryBackofTaxAttributesGeneratedbytheBuyer

    PosttransactionNetOperatingLossesandexcessForeignTaxCreditsgeneratedbyaformermemberofaconsolidatedgroup(onaseparatecompanybasis)canbecarriedbackintothepretransactionconsolidatedreturnoftheSeller

    Currently,NetOperatingLossesarecarriedbacktothetwopreviousyearsandcanbecarriedforwardforupto20years(IRCSection172(b)) However,certainspecifiedliabilitylossescanbecarriedbackfortenyears

    32

  • DealingwithCarryBacks

    Inrecentyears,Congresshaspermittedlimitedexpansionofthecarrybackrulesforperiodsoffourtofiveyears

    Therearealsospecialrulesforfarminglossesandqualifieddisasterlosseswithpotentialincreasedcarrybackperiods

    TaxpayermaywaivetherighttocarrybackNOLs pursuanttoSection172(b)(3)providedtheelectionismadeonatimelyfiledreturn

    33

  • DealingwithCarryBacks

    Currently,excessForeignTaxCreditscanbecarriedbackoneyearandcarriedforwardforuptotenyears(IRCSection904(c))

    UnlikeNOLs,theoneyearcarrybackofForeignTaxCreditsismandatory

    Capitallossescanbecarriedbackforthreeyearsandcarriedforwardforfiveyears(IRCSection1212) Carrybackismandatory

    34

  • PostTransactionCarryBacks

    Aposttransactioncarrybackfromaformersubsidiarycanbedisruptivetotheconsolidatedreturn

    Sellersoptimumprovision:AnyrefundsresultingfromcarrybacksintoapreacquisitionyearremainthepropertyoftheSeller

    Buyersoptimumprovision:AllrefundsresultingfromcarrybacksfromtheTargetshallbepaidimmediatelytotheBuyeruponreceipt

    35

  • PostTransactionCarryBacks

    Compromiseprovision:BuyershallreceiverefundsresultingfromcarrybacksnetofadverseimpactontheSellerstaxposition

    SeePLR200518014 AlsoseePrusiecki,BrilliantAdvocacyorVeryGoodLuck,TaxNotesToday,June28,2005

    36

  • OftenOverlookedIssue

    Shouldsellerindemnitybuyerspretaxoraftertaxexpense?

    37

  • CalculatingtheAppropriateAmountofIndemnityPayments

    ManyPurchaseandSaleAgreementsandTaxSeparationAgreementsaresilentonthetaximpactofindemnifiedlosses

    Manyotherscontainonlybroadlanguage TheamountofanyLossshallbereducedtotakeintoaccountanynettaxbenefitarisingfromtherecognitionoftheLoss

    Veryfewagreementscontaindetailedlanguageandexamplestoaddresstheissuesthatmayarise

    38

  • CalculatingtheAppropriateAmountofIndemnityPayments

    Examplesofpretransactiontaxexposures

    Targetfailedtopaystateincometaxinvariousstatesinwhichithadnexusbutdidnotfilereturns

    TargetdeductedsignificantrepairexpenseswhichIRSlaterdeterminedtobecapitalinnatureandincreasedTargetsbasisinanofficebuilding

    Targeterroneouslydeductedsupplyexpensetwice

    39

  • CalculatingtheAppropriateAmountofIndemnityPayments

    Inallthreesituations,TargetcouldbeentitledtoanindemnificationpaymentfromSeller

    Inthefirstsituation,Targetwillreceiveanimmediatetaxdeductionforthestatetaxespaid Theremaybenondeductiblepenaltiesaswell

    Inthesecondsituation,Targetwillrecoverthetaxdeficiencyovertheremainingusefullifeofthebuilding

    Situationthree,noTargettaxbenefitresultingfromthepayment

    40

  • CalculatingtheAppropriateAmountofIndemnityPayments

    AfullpretaxindemnitywouldclearlygiveTargetawindfallinsituation1andalesserwindfallinsituation2

    Asophisticatedindemnificationclausewoulddistinguishsituation1andsituation2bytakingtimevalueofmoneyintoaccount

    41

  • IndemnificationofNonTaxLiabilities

    Environmentalcleanup Productliability Employeeissues

    Inmanycases,paymentofliabilitiesofthisnaturewillresultinanimmediatetaxdeductionfortheindemnifiedparty(stockpurchase)withlossofbasisinTargetsharesorlossofbasisinamortizableGoodwill(assetpurchase)

    42

  • TaxEffectedIndemnity

    DeterminingValueofBuyersoffsettingtaxbenefitwhen

    determiningaftertaxindemnitypayment

    PotentialoffsetofSellerstaxbenefitofpayingindemnity

    43

  • ImpactofIndemnifiedPartysTaxSituation

    Compensatingindemnifiedlossesonanaftertaxbasisassumesthattheindemnifiedpartyisabletofullyutilizeanytaxdeductionstakenintoaccountindeterminingtheindemnitypayment

    44

  • ImpactofIndemnifiedPartysTaxSituation

    However,buyermaynotbeabletofullyutilizetheoffsettingtaxbenefitofincurringtheindemnifiedexpensecurrentlyoratall

    Lackofsufficienttaxableincome Offsetofforeignsourceincome OffsetofForeignTaxCreditutilization Interferenceofcapitallosscarryforward Preventingutilizationoffuturecarrybacks?

    45

  • DeterminingtheTaxBenefitoftheIndemnifiedParty

    Indemnifiedlosseswillhavepotentialmultipleimpactsontheindemnifiedpartystaxposition

    LossescouldreduceForeignTaxCreditutilizationoroffsetcapitalgainincomepreventingcarrybackoffuturecapitallosses

    Sophisticatedprovisionsaddressdisplacementofotherwiseutilizedattributes

    46

  • IndemnityofForeignTaxExposures

    DirecttaximposedonU.S.taxpayer(Section901) Redeterminationofforeigntaxisreflectedintheyeartowhichtheoriginaltaxrelates

    Deminimis exceptionforredeterminationsbasedsolelyoncurrencyfluctuationsand

    Lessthan$10,000orlessthan2%ofthetaxinitiallyaccrued

    ImpactreflectedonSellerspretransactionreturns

    47

  • ForeignTaxExposures

    Redeterminationofindirectforeigntaxes(Section902) GenerallyadjustmentsdonotimpactdeemedpaidcreditsstemmingfromdistributionsinpreviousyearsbutaresimplyreflectedinthetaxpoolandEarningsandProfitspoolsofthecompany(>10%exception)

    Impactreflectedonlyinposttransactiondistributions

    48

  • OtherTaxIssues

    SaleorspinoffofasubsidiarywhenconsolidatedgrouphasFTCand/orNOLcarryoversRegs1.150221and79(d)

    Buyerswindfall stockoptions Costofplanningtoutilizeattributesdisplacedbyindemnifiedloss

    SpecialprovisionsforpurchaseofanSCorporation

    49

  • ContactInformation

    DanielLeightmanGardereWynneSewellLLP1000Louisiana,Ste.3400Houston,TX77002Phone:713/2765681Cell:713/3767570dleightman@gardere.com

    50

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