Chapter 16.ppt - Tax-free Acquisitions of Freestanding C...

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Tax-free* Acquisitions of Freestanding C Corporations Basic types: IRC §368(a)(1)(A)— Statutory merger IRC §368(a)(1)(B)— Stock-for-stock acquisition IRC §368(a)(1)(C)— Stock-for-asset acquisition Other: Forward and reverse triangular mergers * These transactions are not actually “tax-free”—they only provide target shareholders with tax-deferral of the gain on the acquisition. Also, each of these “tax-free” reorganization structures requires shareholders to recognize a taxable gain to the extent they receive cash or other forms of boot. *
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General Requirements for Tax- free Treatment Under IRC §368 Continuity of interest must be maintained by target shareholders in the assets of the target—target shareholders must receive stock of the acquirer. The principle of continuity of business interest requires the assets of the target to be used in a productive capacity post-acquisition. An acquirer cannot liquidate the target’s assets after purchase. The acquirer must have a valid business purpose , not just a desire to avoid taxes.
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IRC §368 “A” Reorganization— Statutory Merger The acquirer exchanges its stock (and possibly some boot) for the assets and liabilities of the target. The target corporation must distribute to its shareholders in return for their target stock the consideration received from the acquirer. This liquidating distribution is tax-free if target shareholders receive stock of the acquirer; cash received is taxable even if the transaction is tax-free. Gain recognized by target shareholders is the lesser of the gain realized or the boot received. Gain realized is equal to the purchase price (value of consideration received) less the selling shareholder’s tax basis in the stock. Losses realized are not recognized.
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Requirements to Qualify for Tax-free Treatment Under IRC §368(a)(1)(A) Reorganizations must qualify as statutory mergers under applicable state law— the merger must be approved by both the acquirer’s and the target’s shareholders. “A” reorganizations usually require that at least 50% * of the total consideration received by target shareholders in the acquisition is acquirer stock— acquirers can use either voting or non-voting stock and either common or preferred stock. * 40% acquirer stock is sufficient in some transactions.
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Tax Consequences of a §368 “A” Target shareholders take a substituted basis in the acquiring firm stock received in the transaction: Substituted basis = same basis as had in T stock + any gain recognized – boot received The acquirer takes a carryover basis in the assets of the target. The tax attributes of the target will carry over to the acquirer, but they will be limited by IRC §382.
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Given Information for Examples Given Information Purchase Price $1,370.00 Target Shareholder Stock Basis $200.00 Net Tax Basis of Target's Assets * $200.00 Corporate Tax Rate 35% Capital Gains Tax Rate * 20% Discount Rate 10% Assume that any acquirer stock received by T's shareholders in the
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