Mergers and acquisitions often appear to hinge on valuation, deal terms, and negotiation strategy. In reality, many of the factors that determine whether a transaction creates or erodes value are established long before a letter of intent is signed. Financial readiness, diligence preparation, transaction structure, and tax planning all play important roles in shaping the outcome.
In Part 1 of our series, we explored how audit and financial reporting readiness can help lenders build buyer confidence, reduce diligence friction, and avoid costly surprises during the transaction process.
That same principle applies to tax.
Too often, tax is viewed as a compliance exercise that happens near closing. Yet the tax implications of a transaction can materially affect the economics of the deal long before documents are signed. Deal structure, purchase price allocation, earnouts, transaction costs, and tax elections can all influence what buyers pay, what sellers keep, and how value is realized after closing.
In Part 2 of our video series, Kenny Burch, Director in Richey May’s mortgage banking tax practice, and Gina Jackson, Partner in the mortgage banking tax practice, discuss the tax considerations lenders should evaluate before deal terms become deal economics.
Asset deal or stock deal?
One of the most consequential decisions is whether a transaction will be structured as an asset acquisition or a stock acquisition.
In an asset deal, the buyer acquires the underlying assets of the business. Depending on the assets involved, the buyer may receive a new tax basis that can create future depreciation or amortization deductions. The seller recognizes gain asset by asset, and the character of that gain may vary.
In a stock deal, the buyer acquires ownership of the company. Contracts, licenses, permits and employees may remain within the same entity, but the buyer generally receives basis in the stock rather than a new basis in each underlying asset. The buyer also assumes exposure to the company’s historical tax compliance, tax attributes and potential pre-closing liabilities.
Certain eligible stock transactions may be treated as asset acquisitions for tax purposes through specific elections. These structures should be modeled carefully because they can change who bears the tax cost and may create additional compliance and tracking requirements.
The form of payment matters, too
Transactions increasingly may include seller notes, escrows, rollover equity or earnouts tied to future performance. These tools can help buyers and sellers bridge a valuation gap, but they also raise questions about when income is recognized and whether a payment is treated as purchase price, interest, compensation or another category.
The key tax questions go beyond how much will be paid. The parties also need to understand:
- When each payment will be made
- What the payment is for
- How basis may be recovered
- Whether adequate interest has been stated
- How contingent or deferred payments will be reported
Addressing these questions during negotiations can give both parties a clearer view of the transaction’s economics.
Purchase price allocation is part of the deal
In an asset acquisition, the purchase price must be allocated among the acquired assets. That allocation establishes the buyer’s tax basis and influences the seller’s gain or loss by asset category. Both sides report the allocation, making coordination important.
The allocation may also affect the timing and character of the tax consequences. Value assigned to depreciable equipment or amortizable intangible assets may create deductions for the buyer over time. For the seller, the allocation may determine whether gain is treated as capital gain, ordinary income or depreciation recapture.
Ideally, the purchase agreement should document the allocation methodology or establish a process for reaching agreement. Waiting until tax-return preparation can invite disputes after the transaction has closed.
Do not overlook transaction costs
Legal, accounting, investment banking and other advisory fees do not automatically receive a current tax deduction. If a cost facilitates the transaction, it generally must be capitalized. Although if the right criteria are met, certain safe harbors exist to support a portion being currently deductible. Book and tax treatment may also differ, so an expense recognized for financial-reporting purposes may still need to be capitalized for tax.
That makes contemporaneous tracking important. Teams should document the purpose of each cost and evaluate its tax treatment before closing when possible.
Bring tax into the strategy early
The central takeaway is straightforward: tax should be part of deal strategy, not an analysis performed after the agreement is signed.
Early modeling can help buyers and sellers understand the tradeoffs among structure, consideration, purchase price allocation, available elections and transaction costs. Clear documentation can then preserve the treatment the parties intended.
If you missed the beginning of the series, watch Part 1: An Audit Lens to learn how financial readiness, documentation and internal diligence can strengthen buyer confidence.
