Newburg | CPA News Brief

By David R. Natan, CPA, MST, CVA

February 16, 2023

The process of acquisition due diligence requires careful planning and coordination with your tax and legal team.  One area that often gets overlooked or handled too late in the process pertains to tax structuring and special tax elections that may be available. Efficient tax structuring of a transaction involves in-depth research and analysis to ensure that strategic and financial objectives are met.

Developing a formal due diligence plan with your tax and legal team at the onset will help avoid surprises and enhance tax efficiencies. During due diligence, buyers should look to not only understand where the risks may be hidden relative to the target company, but also how to best structure the transaction for current and future tax benefits.

Two of the more important tax elections available to buyers are elections under 338(h)(10) and 336(e).

When integrated properly, the 338(h)(10) election can allow the buyer to obtain the best of both worlds with the ability to treat the transaction for legal purposes as a ‘stock sale’, yet also receive all the tax benefits provided in an ‘asset sale’. From a seller perspective, these elections might be tax neutral or in certain situations result in more tax. Often in an acquisition, the buyer desires to assimilate contracts and licenses from the seller without reapplication or additional costs, making a stock transaction from a practicality standpoint more attractive. It is important to note that under this election the buyer must be either a C Corporation or an S Corporation to effectuate this election.

The 336(e) election accomplishes similar favorable results for the buyer, with the unique distinction that this election also brings into the fold additional eligible buyers such as individuals, partnerships, or other noncorporate entities.

While both elections achieve the ultimate goal of allowing the buyer to “step-up” the target corporation’s assets to fair market value and further depreciate these assets for current and future tax benefits, there are some distinct differences between the two elections:

  • Under 336(e) the purchaser is not required to be a corporation
  • Under 338(h)(10) seller(s) must be a corporate subsidiary of a parent company or an S Corporation. Under 336(e) seller(s) may be any domestic corporation or shareholders of an S Corporation that make a qualified stock disposition
  • 336(e) allows the corporation to be converted to a flow-through entity post acquisition
  • 336(e) allows the taxpayer to aggregate all target stock sold, distributed, or exchanged whereby 338(h)(10) requires a single purchasing corporation.
  • 338(h)(10) requires unilateral consent from both the seller and the acquirer, whereby 336(e) is exclusively made by the seller.
  • While 338(h)(10) requires the purchase of at least 80% of the target stock, 336(e) applies to any combination of exchanges, sales or distributions equaling at least 80% of the target stock

Both elections entail a fair amount of complexity requiring specific elections, important timing requirements, stock basis issues and other disclosure requirements that are beyond the scope of this article.

Newburg CPA, a mid-size accounting firm located just outside Boston, Massachusetts, has many years of M&A due diligence experience assisting both buyers and sellers in transactions. We work closely with your attorney to ensure that you avoid surprises and minimize your overall tax exposure when engaging in an important M&A transaction.

Interested in learning more ahead of your business merger or acquisition? Contact Newburg CPA today for a complimentary initial consultation today.

Newburg | CPA can help

Newburg CPA, a Boston-based accounting firm can assist you. Contact us if you have questions.