Buying, Selling and Transitioning a Business: Increase your ROI with Thoughtful Tax Planning September 18, 2012 Kevin Kaiser, Lindquist & Vennum Mark Salsbury, Lindquist & Vennum Today's Presenters Kevin Kaiser Tax Partner [email protected] Mark Salsbury Tax Partner [email protected] Agenda • M&A Tax Considerations Overview • Corporate Structuring Alternatives and Considerations • Partnership (LLC) Structuring Alternatives and Considerations • Deal Elements and Reporting • Q&A M&A Tax Considerations Overview M&A Tax Considerations Overview • Tax Due Diligence Process • Tax Structuring Considerations and Deal Elements • Drafting/Implementation • Tax Reporting M&A Tax Considerations Overview Tax Due Diligence Process • Investigation and analysis – Buy Side – Sell Side • Pre-Transaction Tailoring – Intercompany accounts M&A Tax Considerations Overview Tax Structuring Consideration and Deal Elements • Non-tax considerations – Asset or equity • Taxable or tax deferred • Buy Side – Maximize tax benefit from purchase price – Preservation of tax benefits (e.g. NOLs) – Minimize tax on income from operations – Minimize tax on exit M&A Tax Considerations Overview Tax Structuring Consideration and Deal Elements (Con't) • Sell Side – Minimize or defer tax on sale – Utilize tax benefits – If target is a corporation (S or C corp), Sellers typically want to sell stock • One level of tax on sale of shares • Gain generally eligible to be taxed at long-term capital gains rates (top rate currently 15%) M&A Tax Considerations Overview Tax Structuring Consideration and Deal Elements (Con't) – If target is an LLC, Sellers are generally more concerned with minimizing ordinary income (taxed at 35%) , i.e., less concerned about selling equity vs. selling assets from a tax perspective • Seek to benefit from "win-win" solutions M&A Tax Considerations Overview Drafting/Implementation • Proper documentation is critical • Purchase agreement – Description of transaction – Purchase price adjustments (e.g., working capital) – Tax and employee benefit representations and warranties – Pre-closing covenants – Post-closing covenants M&A Tax Considerations Overview Drafting/Implementation (cont') – Post-closing covenants • Tax return preparation • Amendments to tax returns • Allocation of taxes between pre- and post-closing periods • Tax audit responsibility – Indemnification (indemnity for taxes, treatment of indemnity payouts, etc.) – Purchase price allocation CPE Polling Code #1 11 Corporate Structuring and Considerations Corporate Structuring and Considerations Basic Overview • Tax treatment of transaction depends on whether Buyer uses cash or stock • Mostly cash = Taxable • Mostly Stock = Potentially Tax-Deferred Corporate Structuring and Considerations Regular Stock Purchase Reverse Triangular Merger Merger Consideration Purchase Price Shareholders Shareholders Buyer Buyer Target Target Merger Sub Merger Sub merges into Target; Target survives Both transactions result in Buyer owning the equity interests of Target. Corporate Structuring and Considerations Taxable Stock Sale • Seller consequences • Buyer consequences • Entity consequences Corporate Structuring and Considerations Regular Asset Purchase Forward Triangular Merger Shareholders Purchase Price Purchase Price P T Purchase Price Shareholders P T S T Assets Assets S T merges into S; S survives Newco Caution: S will succeed to T’s corporate-level tax liability from the deemed sale of assets. Must address contractually. Not a common structure for a taxable transaction. Both transactions result in Buyer’s subsidiary owning the assets of Target. Corporate Structuring and Considerations Taxable Asset Sale • Seller consequences • Buyer consequences • Entity consequences CPE Polling Code #2 20 Corporate Structuring and Considerations Deemed Asset Sale (§338(h)(10) Election) • Basic requirements: – Buyer must be a corporation – Buyer must acquire 80% or more of stock "by purchase" – Target must be an S corp or subsidiary member of a group filing consolidated returns Corporate Structuring and Considerations Deemed Asset Sale (§338(h)(10) Election) • Seller consequences • Buyer consequences • Entity consequences Corporate Structuring and Considerations Drop Down to LLC S Corp 1. S corp contributes assets and liabilities to Newco LLC 2. Purchase and sale of membership interests in Newco LLC (often less than 100%) Buyer Newco LLC Corporate Structuring and Considerations Drop Down to LLC • Facilitates inside basis step where owners also desire tax-deferred rollover treatment • Allows a buyer that is an LLC or partnership to maintain flow through tax treatment for target • Must consider anti-churning issues Corporate Structuring and Considerations Corporate Reorganizations • Basic principles • Statutory requirements • Non-Statutory requirements – Continuity of shareholder interest – Continuity of business enterprise – Business purpose – Exchange of "net value" Corporate Structuring and Considerations Corporate Reorganizations "A" Reorganization Shareholders Target Buyer stock/other consideration (other consideration not to exceed 60%) Buyer Target merges with and into Buyer with Buyer surviving Note: For liability protection, consider merging Target with an into Buyer's wholly owned LLC subsidiary Corporate Structuring and Considerations Corporate Reorganizations "B" Reorganization Buyer voting stock (and no other consideration) Shareholders Buyer Target Target stock which constitutes "control" for purposes of Section 386(c) Note: A "B" reorganization can also be effected by merger CPE Polling Code #3 09 Partnership (LLC) Structuring and Considerations Partnership (LLC) Structuring and Considerations Purchase of Partnership or Membership Interests • Purchase of <100% of equity interests • Sellers – Gain generally eligible for LTCG treatment – Exception – "hot asset" rules • Unrealized receivables • Inventory • Depreciation recapture Partnership (LLC) Structuring and Considerations Purchase of Partnership or Membership Interests • Buyer – Basis in membership interest = amount paid for membership interest plus share of partnership liabilities – §754 election to obtain basis step up in Buyer's share of assets • LLC – Technical termination under §708 if 50% or more of capital or profits are sold within 12 month period Partnership (LLC) Structuring and Considerations §754 Election • A §754 election is made when Buyer acquires less than 100% of the equity in an LLC to obtain Asset SUB • Election impacts only Buyer’s share of inside basis • Nonselling members’ share of inside basis is unchanged (i.e., they are not affected by the election) Partnership (LLC) Structuring and Considerations Purchase of Partnership or Membership Interests • Purchase of 100% of equity interests by single buyer • Rev. Rul. 99-6 – Sellers – Sale of partnership interests – Buyer – Purchase of assets Partnership (LLC) Structuring and Considerations Partnership Asset Sale • Cash purchase • Cash and equity consideration Partnership (LLC) Structuring and Considerations Partnership Division or Merger Rules • Two partnerships merge into one partnership, resulting partnership treated as continuation of the partnership the members of which own 50% or more of the resulting partnership • Default rule – Assets over merger – Terminated partnership deemed to transfer assets to resulting partnership in exchange for equity interests, and then liquidate Deal Elements and Reporting Deal Elements and Reporting • • • • • • • • Escrows Earn-outs and contingent consideration Transaction costs Noncompete agreements Personal goodwill Contingent liabilities Purchase price allocations Tax Documentation Thank You For Joining Us Today! • CLE Event Code 169865 • For CPE credit, email the six-digit polling code sequence (XX-XX-XX) to [email protected] • Join us on Oct. 16 for "Tiptoeing Through the Employment Law Minefield" – Visit www.lindquist.com/2012webinarseries for more info and to register.