7-1 ©2011 Pearson Education, Inc. Publishing as Prentice Hall.

7-1©2011 Pearson Education, Inc. Publishing as Prentice Hall

7-2

CORP ACQUISITIONS & REORGANIZATIONS (1 of 2)

Taxable acquisition transactionsTaxable vs. nontaxable

acquisitionsTax consequences of

reorganizationsAcquisitive reorganizationsDivisive reorganizations Other reorganization transactions©2011 Pearson Education, Inc. Publishing as

Prentice Hall

7-3

CORP ACQUISITIONS & REORGANIZATIONS (2 of 2)

Judicial restrictions on reorganizations

Tax attributesLimitation on use of tax attributesExample Tax planning considerationsCompliance & procedural

considerationsFinancial statement implications

©2011 Pearson Education, Inc. Publishing as Prentice Hall

7-4

Taxable Acquisition Transactions

Asset acquisitionsStock acquisitions w/ no

liquidationStock acquisitions w/ liquidationStock acquisitions w/ §338

deemed sale electionSee Table 1 for a summary


7-5

Asset Acquisitions

Direct purchase of assetsTarget corporation

Gain or loss and depreciation recapture are computed by selling (target) corporation on each asset

Acquiring corporationBasis in assets is acquisition cost


7-6

Stock Acquisitions with No Liquidation (1 of 2)

How acquisition is accomplishedShareholders of target corp sell

their shares directly to purchaser corp

Target corp recognizes NO gain/loss

Target corp s/hs recognize gain/lossPayment to a s/h for a

noncompete agreement is ordinary income to s/h


7-7

Stock Acquisitions with No Liquidation (2 of 2)

Purchaser corp consequencesPurchaser has a new subsidiaryBasis in target stock is acquisition

costPurchaser’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


7-8

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


7-9

Stock Acquisitions with §338 Deemed Sale Election

(1 of 5)

How acquisition is accomplishedShareholders of target corp sell their

shares directly to purchaser corpWithin a 12-month period

Purchaser files §338 election pretending that target has been liquidated and a new subsidiary created in its place


7-10


(2 of 5)

Target corp recognizes gains & losses on “pretend” sale of assets to itselfSubject to depreciation recapture

Target corp’s basis in its assets are stepped up (or down)Sales price calculated on slide 12


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(3 of 5)

Target’s old tax attributes wiped outNew elections are made

See Topic Review 1 for summary


7-12


(4 of 5)

ADSP = G + L - (TR x B) (1 – TR)

ADSP: Adjusted deemed sale priceG: 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


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(5 of 5)

Tax basis in assets after deemed saleAdjusted grossed-up basis

Sum of Recently purchased stockTarget corp’s nontax liabilitiesTarget corp’s tax liability

Allocate to 7 classes using residual method


7-14

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


7-15

Taxable vs. Nontaxable Acquisitions (2 of 2)

Only purchase method allowed for GAAP for business combinationsASC 805 (FAS No. 141)

Goodwill not amortized for GAAPAssets recorded at FMVTested for impairmentASC 350 (FAS No. 142)


7-16

Tax Consequences of Reorganizations

Target corporationAlso referred to as “transferor”

corpAcquiring corporation

Also referred to as “transferee” corp

Shareholders & security holders


7-17

Target (Transferor) Corporation

No gain/loss on asset transferAssets retain depr recap

potentialAssumption of liabilities

generally does not trigger gain recognitionPossible exception for divisive

Type DNo gain/loss on distribution of

stock and securities as part of reorg plan


7-18

Acquiring (Transferee) Corporation

No gain/loss recognized when it receives assets in tax-free reorg

Carryover basis of qualifying propertyGain recognized lesser of gain

realized or FMV of nonqualified property received

Carryover holding periodDoes not include boot©2011 Pearson Education, Inc. Publishing as

Prentice Hall

7-19

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 planGain recognized lesser of gain

realized or cash plus FMV of other property receivedDividend or capital gain depending on

§302 testDividend vs. redemption


7-20

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©2011 Pearson Education, Inc. Publishing as

Prentice Hall

7-21

Acquisitive Reorganizations

Acquiring corp obtains part or all of assets or stock of a target corp

See topic Review C7-5Tax consequencesType A: Merger or consolidationType C: Assets for stockType B: Stock for stock

exchangeType D: Asset for stockType G: Bankruptcy


7-22

Tax Consequences

Acquiring corporationDoes 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©2011 Pearson Education, Inc. Publishing as

Prentice Hall

7-23

Type A: Merger or Consolidation

(1 of 2)

MergerOne company liquidates

ConsolidationBoth companies liquidate and a

new third company emergesTriangular merger

Acquiring corp uses a controlled subsidiary to acquire target


7-24

Type A: Merger or Consolidation

(2 of 2)

Reverse triangular mergerAcquiring corp uses a controlled

subsidiary to acquire targetControlled subsidiary merged into

the target corporationTarget corporation becomes a

subsidiary of the parent corporation


7-25

Type C: Assets for Stock

Acquiring corp obtains substantially all of target corp’s assets in exchange for acquiring corp’s voting stock and a limited amount of other considerationSubstantially all means 70% of FMV

of gross assets & 90% of FMV of net assets

Target liquidates itself©2011 Pearson Education, Inc. Publishing as Prentice Hall

7-26

Type D: Asset for StockAcquisitive D (1 of 2)

Acquiring corp obtains substantially all of target corp’s assets in exchange for acquiring corp’s voting stock & other considerationSubstantially 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


7-27

Type D: Asset for StockAcquisitive D (2 of 2)

Target or target s/hs must control acquiring corp immediately after asset transferControl defined as either 50% of

voting power of voting stock or 50% of total value of all stock

Target liquidates itself


7-28

Type B: Stock for Stock

Acquiring corp issues voting stock directly to target s/hs in exchange for shares of target

Target continues under new ownership

No other consideration can be usedExcept for acquiring fractional

shares and payment of certain expenses of target


7-29

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 court-approved plan


7-30

Divisive Reorganizations

Part of corp’s assets transferred to a second corp which is owned by either the original corp or its s/hs

Divisive D reorganizationsSplit-offSpin-offSplit-up

Divisive G reorganization©2011 Pearson Education, Inc. Publishing as Prentice Hall

7-31

Split-off

Corp transfers assets to a controlled subsidiary in exchange for sub’s stock

Sub’s stock then transferred to one or more s/hs in exchange for parent corp stock


7-32

Spin-off

Corp transfers assets to subsidiary in exchange for sub’s stock

Parent distributes sub stock to all parent s/hs on a pro rata basis

Parent receives nothing in exchange for distribution of sub’s stock


7-33

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/hs in exchange for all outstanding parent stock and liquidates


7-34

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/hs, security holders, and creditors

Transferor corp may continue business or be liquidated by the court


7-35

Other Reorganization Transactions (1 of 2)

Type E: RecapitalizationReshuffling 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


7-36

Other Reorganization Transactions (2 of 2)

Type F: Administrative changeA mere change in identity, form or

state of incorporationAssets and liabilities of old

corporation are transferred to new corporation

All old securities are exchanged for identical new securities


7-37

Judicial Restrictions on Reorganizations (1 of 2)

If judicial restrictions are not met, reorganization loses its tax-free statusContinuity of proprietary interest

Old owners must continue ownershipNew Reg now accepts 40% as the

continuity of interest threshold Continuity of business enterprise

Old assets must be used in new business


7-38

Judicial Restrictions on Reorganizations (2 of 2)

Business purposeValid business purpose for

transactionStep transaction doctrine

IRS may collapse series of independent transactions if all part of a plan


7-39

Tax Attributes

Tax attributes follow assetsNOLs, capital losses, E&P, gen.

bus. credit, inventory methodsAcquiring 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


7-40

Limitation on Use of Tax Attributes (1 of 2)

§§382 & 269 prevent assets or stock purchases if primary purpose is obtaining loss carryovers

§§382 & 269 also prevent a loss corp from purchasing a profitable corp if primary purpose is using its existing losses ©2011 Pearson Education, Inc. Publishing as

Prentice Hall

7-41

Limitation on Use of Tax Attributes (2 of 2)

§383 restricts tax credit and capital loss carryovers if §382 appliesRestrictions 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).


7-42

Example(1 of 4)

Thomas Corp transfers all assets and part of its liabilities to Andrews Corp. for $600K of Andrews Common stock. Following the merger, Thomas is liquidatedThomas’ basis in assets $475KLiabilities transferred $100K


7-43

Example(2 of 4)

What is Thomas’ recognized gain or loss?Gain realized: $700K* - $475K =

$225KBoot received: $0Recognized Gain: $0

* $700K = $600K stock + $100K relief of liabilities©2011 Pearson Education, Inc. Publishing as

Prentice Hall

7-44

Example(3 of 4)

What is Andrews’ basis in the assets?$475K (carryover)

How much gain/loss does Thomas recognize upon distribution of Andrews stock to Thomas’ shareholders?No gain or loss


7-45

Example(4 of 4)

What if Thomas’ basis had been $750K?Recognized loss: $ 0Basis (carryover): $750KDistribution gain or loss: $ 0


7-46

Tax Planning Considerations

Why use a reorganization instead of a taxable transaction?Target corp s/h defer gain

recognitionTarget corp exchanges assets w/out

gain recognition or depreciation recapture

Avoiding reorganization provisionsAllows acquiring corp to make §338

election


7-47

Compliance and Procedural

Considerations

§338 electionAcquiring corp files Form 8023

Plan of reorganizationWritten plan not required, but

prudentRuling requests

May request advanced ruling from IRS on tax consequences of reorganization©2011 Pearson Education, Inc. Publishing as

Prentice Hall

7-48

Financial Statement Implications (1 of 2)

ASC 805 (SAFS No. 141)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


7-49

Financial Statement Implications (2 of 2)

Taxable asset acquisitionNontaxable asset acquisitionStock acquisitionPricing the acquisitionNet operating losses


7-50

Taxable Asset Acquisition

Tax basis likely same as book basisNo deferred tax liabilities or

assetsIf tax and book goodwill are equal,

§197 amortization of goodwill creates temporary difference


7-51

Nontaxable Asset Acquisition

Book bases differ from carryover tax bases of acquired assetsASC 850 (SFAS 109) prescribes that

acquiring corp recognize deferred tax liability/asset for book/tax differences in bases of transferred assets and liabilities

Goodwill not amortizable for taxNo temporary difference©2011 Pearson Education, Inc. Publishing as

Prentice Hall

7-52

Stock Acquisition

Target corp remains intact as a subsidiary of acquiring corp

Adjustments under ASC 850 & 740 (SFAS 141 & 109) occur when preparing consolidated financial statements


Comments or questions about PowerPoint Slides?Contact Dr. Richard Newmark at University of Northern Colorado’s

Kenneth W. Monfort College of [email protected]

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