Copyright 2013 Pearson Education Inc publishing as Prentice
Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -1
CORP ACQUISITIONS & REORGANIZATIONS (1 of 2) ® Taxable acquisition transactions ® Taxable vs. nontaxable acquisitions ® Tax consequences of reorganizations ® Acquisitive reorganizations ® Divisive reorganizations ® Other reorganizations Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -2
CORP ACQUISITIONS & REORGANIZATIONS (2 of 2) ® Judicial restrictions on reorganizations ® Tax attributes ® Limitation on use of tax attributes ® Example ® Tax planning considerations ® Compliance & procedural considerations Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -3
Taxable Acquisition Transactions ® Asset acquisitions ® Stock acquisitions w/ no liquidation ® Stock acquisitions w/ § 338 deemed sale election ® See Table 1 for a summary Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -4
Asset Acquisitions ® Direct purchase of assets ® Target corporation Gain or loss and depreciation recapture are computed by selling (target) corporation on each asset ® Acquiring Basis corporation in assets is acquisition cost Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -5
Stock Acquisitions with No Liquidation (1 of 2) ® How acquisition is accomplished Shareholders of target corp sell their shares directly to purchaser corp ® Target corp recognizes NO gain/loss ® Target corp s/h’s recognize gain/loss Payment to a s/h for a noncompete agreement is ordinary income to s/h Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -6
Stock Acquisitions with No Liquidation (2 of 2) ® Purchaser corp consequences Purchaser has a new subsidiary Basis in target stock is acquisition cost ¬Purchaser’s basis in target’s stock (outside basis) may be > target’s basis in its assets No adjustment to basis of target’s assets ® Tax attributes of target transfer to purchaser Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -7
Stock Acquisitions with Liquidation ® If parent owns at least 80% of new subsidiary, liquidation is tax-free as described in Chapter 6 ® Premium paid (amount above target corp’s basis in its assets) is lost upon liquidation of the subsidiary Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -8
Stock Acquisitions with § 338 Deemed Sale Election In General ® How acquisition is accomplished Shareholders of target corp sell their shares directly to purchaser corp ¬Within a 12 -month period Purchaser files § 338 election pretending that target has been liquidated and a new subsidiary created in its place Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -9
Stock Acquisitions with § 338 Deemed Sale Election Target Corp (1 of 2) ® Target corp recognizes gains & losses on “pretend” sale of assets to itself Subject to depreciation recapture ® Target corp’s basis in its assets are stepped up (or down) Sales price calculated on Slide 12 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -10
Stock Acquisitions with § 338 Deemed Sale Election Target Corp (2 of 2) ® Target’s New ® See old tax attributes wiped out elections are made Topic Review 1 for summary Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -11
Stock Acquisitions with § 338 Deemed Sale Election Deemed Sale Price ADSP = G + L - (TR x B) (1 – TR) ADSP: Adjusted deemed sale price G: Acquiring’s grossed-up basis in the target corporation’s recently purchased stock L: Target’s liabilities other than tax liab for sale TR: Applicable federal income tax rate B: Adjusted basis of asset(s) deemed sold Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -12
Stock Acquisitions with § 338 Deemed Sale Election New Tax Basis ® Tax basis in assets after deemed sale Adjusted ¬ grossed-up basis Sum of ªRecently purchased stock ªTarget corp’s nontax liabilities ªTarget corp’s tax liability Allocate to 7 classes using residual method Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -13
Taxable vs. Nontaxable Acquisitions (1 of 2) ® Use of cash and debt for acquisition produce taxable acquisition ® Use of stock and limited cash or debt likely produce nontaxable acquisition ® Primary tax impact is on the target (corporation being acquired) ® See Topic Reviews 2 & 3 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -14
Taxable vs. Nontaxable Acquisitions (2 of 2) ® Only purchase method allowed for GAAP for business combinations ASC 805 ® Goodwill not amortized ¬Assets recorded at FMV ¬Tested for impairment ¬ASC 350 for GAAP Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -15
Tax Consequences of Reorganizations ® Target Also corporation referred to as “transferor” corp ® Acquiring Also corporation referred to as “transferee” corp ® Shareholders & security holders Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -16
Target (Transferor) Corporation ® No gain/loss on asset transfer ® Assets retain depr recap potential ® Assumption of liabilities generally does not trigger gain recognition Possible exception for divisive Type D ® No gain/loss on distribution of stock and securities as part of reorg plan Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -17
Acquiring (Transferee) Corporation ® No gain/loss recognized when it receives assets in tax-free reorg ® Carryover basis of qualifying property Gain recognized lesser of gain realized or FMV of nonqualified property received ® Carryover Does holding period not include boot Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -18
Shareholders & Security Holders (1 of 2) ® No gain/loss on stock or securities received if exchanged solely for stock or securities as part of reorg plan Gain recognized lesser of gain realized or cash plus FMV of other property received ¬Dividend or capital gain depending on § 302 test ªDividend vs. redemption Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -19
Shareholders & Security Holders (2 of 2) ® Basis of stocks & securities received Adjusted basis in stocks & securities given up + Gain recognized on the exchange - Money & FMV of other property received Basis of nonrecognition property received Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -20
Acquisitive Reorganizations ® Acquiring corp obtains part or all of assets or stock of a target corp ªSee Topic Review C 7 -5 ® Tax consequences ® Type A: Merger or consolidation ® Type C: Assets for stock ® Type B: Stock for stock exchange ® Type D: Asset for stock ® Type G: Bankruptcy Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -21
Tax Consequences ® Acquiring corporation Does not recognize gain/loss when it receives property as part of a tax-free exchange Acquired property has a carryover basis ® Shareholders & security holders May have gain to extent “nonqualifying” property received as part of exchange Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -22
Type A: Merger or Consolidation Types (1 of 2) ® Merger One company liquidates ® Consolidation Both companies liquidate and a new third company emerges ® Triangular merger Acquiring corp uses a controlled subsidiary to acquire target Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -23
Type A: Merger or Consolidation Types (2 of 2) ® Reverse triangular merger Acquiring corp uses a controlled subsidiary to acquire target Controlled subsidiary merged into the target corporation Target corporation becomes a subsidiary of the parent corporation Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -24
Type A: Merger or Consolidation Type A Illustration – Merger Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -25
Type A: Merger or Consolidation Type A Illustration – Consolidation Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -26
Type A: Merger or Consolidation Illustration – Triangular Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -27
Type C: Assets for Stock Basic Concepts ® Acquiring corp obtains substantially all of target corp’s assets in exchange for acquiring corp’s voting stock and a limited amount of other consideration Substantially all means 70% of FMV of gross assets & 90% of FMV of net assets ® Target liquidates itself Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -28
Type C: Assets for Stock Illustration Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -29
Type D: Asset for Stock Acquisitive D - Acquiring Corporation ® Acquiring corp obtains substantially all of target corp’s assets in exchange for acquiring corp’s voting stock & other consideration Substantially all means 70% of FMV of gross assets & 90% of FMV of net assets New Reg. allows acquiring corp to use as much as 60% other consideration 7 -30 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall
Type D: Asset for Stock Acquisitive D -Target ® Target or target s/h’s must control acquiring corp immediately after asset transfer defined as either 50% of voting power of voting stock or 50% of total value of all stock Control ® Target liquidates itself Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -31
Type D: Asset for Stock Acquisitive D - Illustration Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -32
Type B: Stock for Stock Basic Concepts ® Acquiring corp issues voting stock directly to target s/h’s in exchange for shares of target ® Target continues under new ownership ® No other consideration can be used Except for acquiring fractional shares and payment of certain expenses of target Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -33
Type B: Stock for Stock Illustration Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -34
Type G: Bankruptcy ® Part or all of target’s assets transferred to a new corp as part of a court-approved plan in a bankruptcy, receivership, or similar situation ® Securities of new corporation are distributed in accordance with courtapproved plan Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -35
Divisive Reorganizations ® Part of corp’s assets transferred to a second corp which is owned by either the original corp or its s/h’s ® Divisive D reorganizations Split-off Spin-off Split-up ® Divisive G reorganization Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -36
Divisive D: Split-Off Basic Concepts ® Corp transfers assets to a controlled subsidiary in exchange for sub’s stock ® Sub’s stock then transferred to one or more s/h’s in exchange for parent corp stock Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -37
Divisive D: Split-Off Illustration Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -38
Divisive D: Spin-Off ® Corp transfers assets to subsidiary in exchange for sub’s stock ® Parent distributes sub stock to all parent s/h’s on a pro rata basis ® Parent receives nothing in exchange for distribution of sub’s stock Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -39
Divisive D: Split-Up ® Existing corp transfers all assets to two or more new controlled subs in exchange for sub stock ® Parent distributes all stock of each sub to existing s/h’s in exchange for all outstanding parent stock and liquidates Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -40
Divisive G Reorganization ® Existing corp transfers part of assets to a second corporation according to a court-approved plan ® Transferor distributes all stock and securities to second corp to s/h’s, security holders, and creditors ® Transferor corp may continue business or be liquidated by the court Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -41
Other Reorganizations Type E: Recapitalization ® Reshuffling of corporate structure w/in framework of existing corp (1942 S. C. ) ® Must have a bona fide business purpose for reorganization ® Stock for stock, bonds for stock, or bonds for bonds exchanged as part of a plan Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -42
Other Reorganizations Type F: Administrative Change ®A mere change in identity, form, or state of incorporation ® Assets and liabilities of old corporation are transferred to new corporation ® All old securities are exchanged for identical new securities Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -43
Judicial Restrictions on Reorganizations (1 of 2) ® If judicial restrictions are not met, reorganization loses its tax-free status Continuity of proprietary interest ¬Old owners must continue ownership ¬New Reg now accepts 40% as the continuity of interest threshold Continuity of business enterprise ¬Old. Copyright assets must be. Inc. used new. Hall business 7 -44 © 2013 Pearson Education, publishingin as Prentice
Judicial Restrictions on Reorganizations (2 of 2) Business ¬Valid Step purpose business purpose for transaction doctrine ¬IRS may collapse series of independent transactions if all part of a plan Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -45
Tax Attributes ® Tax attributes follow assets NOLs, capital losses, E&P, gen. bus. credit, inventory methods ® Acquiring corp obtains control of both assets & attributes in A, C, acquisitive D & G, and F reorgs ® Asset ownership does not change in B or E reorgs 7 -46 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall
Limitation on Use of Tax Attributes §§ 382 & 269 ® Prevent assets or stock purchases if primary purpose is obtaining loss carryovers ® Also prevent a loss corp from purchasing a profitable corp if primary purpose is using its existing losses Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -47
Limitation on Use of Tax Attributes § 383 & § 384 ® § 383 restricts tax credit and capital loss carryovers if § 382 applies Restrictions similar to NOLs ® § 384 prevents pre-acquisition losses of either acquiring or target corp (loss corp) from offsetting BIG recognized during 5 yrs after acq. by another corp (gain corp). Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -48
Example (1 of 4) ® Thomas Corp transfers all assets and part of its liabilities to Andrews Corp. for $600 K of Andrews Common stock. Following the merger, Thomas is liquidated Thomas’ basis in assets $475 K Liabilities transferred $100 K Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -49
Example (2 of 4) ® What is Thomas’ recognized gain or loss? Gain realized: $700 K* - $475 K = $225 K Boot received: $0 Recognized Gain: $0 * $700 K = $600 K stock + $100 K relief of liabilities Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -50
Example (3 of 4) ® What is Andrews’ basis in the assets? $475 K (carryover) ® How much gain/loss does Thomas recognize upon distribution of Andrews stock to Thomas’ shareholders? No gain or loss Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -51
Example (4 of 4) ® What if Thomas’ basis had been $750 K? Recognized loss: $ 0 Basis (carryover): $750 K Distribution gain or loss: $ 0 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -52
Tax Planning Considerations ® Why use a reorganization instead of a taxable transaction? Target corp s/h’s defer gain recognition Target corp exchanges assets w/out gain recognition or depreciation recapture ® Avoiding Allows reorganization provisions acquiring corp to make § 338 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -53
Compliance and Procedural Considerations ® § 338 election Acquiring ® Plan corp files Form 8023 of reorganization Written ® Ruling plan not required, but prudent requests May request advanced ruling from IRS on tax consequences of reorganization Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -54
Financial Statement Implications (1 of 2) ® ASC 805 Acquiring corp may only use purchase method for financial statement purposes Deferred tax accounts and treatment of goodwill depend on whether acquisition was taxable or nontaxable Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -55
Financial Statement Implications (2 of 2) ® Taxable asset acquisition ® Nontaxable asset acquisition ® Stock acquisition ® Pricing the acquisition ® Net operating losses Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -56
Taxable Asset Acquisition ® Tax basis likely same as book basis No deferred tax liabilities or assets If tax and book goodwill are equal, ¬§ 197 amortization of goodwill creates temporary difference Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -57
Nontaxable Asset Acquisition ® Book bases differ from carryover tax bases of acquired assets ASC 850 (SFAS 109) prescribes that acquiring corp recognize deferred tax liability/asset for book/tax differences in bases of transferred assets and liabilities ® Goodwill No not amortizable for tax temporary difference Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -58
Stock Acquisition ® Target corp remains intact as a subsidiary of acquiring corp ® Adjustments under ASC 850 & 740 occur when preparing consolidated financial statements Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -59
Comments or questions about Power. Point Slides? Contact Dr. Richard Newmark at University of Northern Colorado’s Kenneth W. Monfort College of Business richard. newmark@Ph. Duh. com Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall 7 -60
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