How to Minimize Tax Exposure on M&A Transactions

Taxes can put a significant dent on the final price of your business. Here’s how you reduce tax exposure on your M&A transactions.

Key takeaways:

• Tax exposure is an important aspect of any M&A transaction.
• Any material tax issues discovered during negotiations could slow the deal and cause buyers to walk away.
• Sellers need to conduct due diligence and address any tax issues that arise.
• Choose a suitable structuring method to expose you to fewer tax risks.
• You must state the terms of your transaction in a purchase agreement, so negotiate well when drafting it.
• Getting tax insurance is also a great way to boost your buyer’s confidence throughout the sale.

As a business owner, news of mouth-watering merger and acquisition (M&A) transactions for your operation is likely music to your ears. You’ve spent countless years striving to meet your business objectives, and it is only right that you get a fair deal. But have you stopped to think about the pre- and post-sale tax implications?

Savvy owners understand that tax exposure affects negotiations and eats into their final cut. This is why investors should be wary of tax implications before accepting buyers’ offers. Getting advice from professionals ensures you don’t run into unforeseen taxation issues or cut yourself short.?

Here are some ways you can reduce your tax exposure on M&A transactions.

1. Conduct tax due diligence as a seller

Sellers often leave tax due diligence to buyers, but you can do your own as well. A buyer who discovers material tax issues could delay negotiations, seek a change of terms, or, worse, walk away. Failure to fully understand your company’s tax position will put you at a disadvantage, which prompts the need for sell-side tax due diligence.

But what is sell-side due diligence, and how can your business profit from it? Here’s what to know:

• It entails getting the services of a third-party tax professional to analyze your company’s tax situation with a buyer’s perspective in mind.?
• This gives you a wide look at your business’s tax profile and helps identify potential tax exposure and liabilities.?
• Sell-side tax due diligence will also give insight into any tax benefits such as tax credit carry-forwards that a buyer may receive in the future.

A key advantage of conducting due diligence as a seller is that you get to remedy any risks before moving on with the sale. You can ask the Internal Revenue Service (IRS) for a voluntary disclosure agreement in case of back taxes, plus amend previous tax returns or seek reliefs.

2. Choose the best tax structuring alternative

Another way to minimize tax exposure and risks is to properly structure the transaction from the start. You should evaluate your structuring options before you decide to complete a sale if you wish to maximize your after-tax proceeds. Keep in mind that:

• Choosing to structure the sale of your company through stock or assets will have different tax implications.?
• Buyers often prefer to structure an M&A transaction through the sale of assets, thereby reducing the risk of historic tax liabilities.?
• On the other hand, sellers will prefer to sell or transfer their stock, and for good reasons.?
• Selling stock is a sure way to avoid double taxation and means you qualify for favorable capital gain tax rates.

It is prudent to understand the implications of tax structuring to both the buyer and the seller. It keeps you from being surprised, for one thing, and allows you to negotiate for a higher price if the buyer wants to use a different tax structure than what you prefer.

3. Stay vigilant when negotiating purchase agreements

The purchase agreement is a critical document that you must draft when conducting any M&A deal. It sets out transaction terms and outlines the structure of the deal. Many sellers forget that the purchase agreement also indicates who will benefit from any future tax deductions or benefits, however. This makes it necessary for any seller to be vigilant and seek favorable terms when negotiating the purchase agreement.?

There are a couple ways to do this. The agreement should clearly outline each party’s role in settling tax liabilities before and after the sale, for example, while asserting whether the buyer has a right to indemnification in case of future tax liabilities. You should also determine post-sale tax issues such as tax purchase price allocations, among other things.

It is worth noting that tax-related provisions that favor sellers in a purchase agreement may be detrimental to buyers. As a seller, you are likely to lose if you do not understand the main tax negotiating issues that arise in a purchase agreement.

4. Get tax insurance

One last way to reduce your tax exposure is by getting tax insurance. This will protect you against any unforeseen tax losses in an M&A transaction if the IRS challenges your tax position. Tax insurance is comprehensive and will cover you against many potential losses, including any extra taxes the IRS demands, fines and penalties on such taxes, gross-up taxes, and any costs you incur contesting the IRS.

Having tax insurance will give you and the buyer confidence to execute your M&A transaction. You can use it as a risk management tool that transfers any potential tax losses to your insurance company. Your negotiations will then sail much faster, and you can easily handle any objections that arise from buyers.

How SF&P Advisors can help reduce tax exposure in your next M&A transaction

Potential tax exposure and risks are common deal breakers that easily scare prospective buyers away. Business owners can reduce these risks by conducting tax due diligence, choosing a favorable tax structure, and getting tax insurance, among other steps. It would be best if you also worked with M&A professionals that will hold your hand throughout the transaction.?

SF&P Advisors has worked on countless successful M&A deals and can ensure that yours is a success, too.?We’re here to make this process easier for you, so reach out today to get started! What are you waiting for? Book a call with Brian to boost your company’s mergers and acquisitions results.