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Mergers and Acquisitions: The Tax Perspective

Mergers and acquisitions is a general term that refers to consolidation of organizations. These represent the basic corporate restructuring activities that lead to inorganic growth of an organization. A merger describes a combination of two companies leading to the formation of a new company. However, an acquisition is the purchase of one company by another that does not result in the formation of a new company.

Mergers and acquisitions could be either taxable or tax-free events. Moreover, a transaction’s tax status has an effect on its value both from the perspective of a buyer as well as the seller. A tax-free acquisition is described as pooling of interests. However, in a taxable acquisition the selling firm’s assets are revalued. Therefore, let us examine the tax accounting in mergers and acquisitions.

Generally, the tax-gains in mergers might arise due to unused tax losses, surplus funds, unutilized debt capacity as well as writing up of depreciable assets. The tax losses of target organizations could be counterbalanced against the future income of an acquiring company. However, the tax losses for earlier three years could be utilized for offsetting future income.

The carry-forwards of tax losses can encourage mergers as well as acquisitions. A profit-making company might find value in target company’s tax losses. This can be utilized to compensate for the income the company intends to earn. However, a merger might not be structured only for the purpose of taxes. Additionally, the acquirer should continue operating the pre-acquisition business of an organization in net loss position.

Tax advantages could also arise during an acquisition if the target firm carries the assets in its records with basis for the purpose of taxes. However, the value that is mentioned in the records is below the market value of assets. For tax purposes, such assets can be more valuable it they are owned by another organization which could improve their tax basis after an acquisition. Thereafter, the acquiring company depreciates the assets on the basis of higher market values that lead to additional depreciation benefits.

The tax accounting in mergers and acquisitions is usually taken care of along with the due diligence process or later.