When considering selling a business or bringing in new investors, tax should be managed throughout the process from origination through to deal completion in order to minimise risk and maximise opportunities.

The below article explores the key tax considerations for vendors which often come up as part of a sale process. Pre-empting the potential tax issues will ensure there is adequate time and flexibility in the transaction to rectify any issues that arise.

Considering the target perimeter – what is for sale?

Whether it is through a direct offer or launching a sale process, the first critical question for a vendor is ‘what is the target?’

The following aspects are generally considered as part of the sale structure:

Is the transaction a sale of assets or a sale of shares?

There are various advantages and disadvantages to vendors and buyers, depending on the type of business being sold. The most fundamental considerations are:

• Capital gains tax for the vendor (and potentially double charge to tax)
• Quantification of stamp duty for the buyer
• Ability to easily identify, separate or retain certain assets

Most transactions in Ireland are structured as share deals, so for the purposes of this article, we have focused on share sales and the tax considerations of such transactions.

Is the target the shares in the trading company or the holding company of that trading company?

This question will generally be answered through initial tax structuring advice which would consider the availability of certain reliefs like entrepreneurs relief or participation exemption which require the sale to be structured in a particular way in order to meet the respective qualifying conditions. The vendor may also wish to maximise the gross proceeds for reinvestment (rather than receiving the proceeds directly) which may result in one route being chosen over the other. In those cases and taking a simple example, the holding company will usually sell the trading company availing of participation exemption. Extraction of funds from the holding company would be subject to tax depending on the chosen mechanic for extraction.

The structure may also be dictated by the commercial agreement and whether the vendor intends to (or is required) to rollover a portion of their equity in the target structure into the buyers’ acquisition structure (discussed further below). This would be common in management buy out structures or in circumstances where the vendor plays a significant role in the business.

Are there non-target assets that need to be extracted pre-closing?

Prior to a sale, an inventory of the assets and liabilities held on the balance sheet(s) of the company or companies in the transaction perimeter should be undertaken in order to assess any assets or liabilities which will not form part of the transaction. The mechanisms for extracting the assets will depend on a number of factors including the type of assets, valuation and inherent gains. There are a number of tax reliefs available which can be used to extract assets in a tax efficient way such as group relief, associated companies relief or participation exemption, to name a few.

In other cases, a distribution in specie or sale to the shareholders could also be undertaken which would have tax implications for the shareholders and the distributing entity.

Whether reliefs are being claimed or tax is being settled, care is needed to manage and quantify income tax, withholding tax, corporation tax, corporation tax on chargeable gains and stamp duty. Valuation plays a key role in assessing any tax arising on transactions with shareholders.

Is a pre-sale restructuring required in order to ‘package’ the target business/assets for sale?

In certain circumstances, a target company may have two independent businesses or a mix of a business and investment assets. In those cases, it is necessary to ‘carve up’ the company’s interests and assets into a structure that is ready for sale. Where a restructure of the target business is needed in order to ‘package’ a target business into a company for sale, care is needed to manage any inherent gains built into the target or non-target assets.

Depending on the facts and circumstances, it is possible to undertake corporate reorganisations which achieve the necessary objectives. It is critically important that corporate reorganisations are implemented for bona fide commercial reasons to support accessing the relevant reliefs. Furthermore, the reorganisation should not be contingent on a future sale nor should there be a binding contract to sell a newly incorporated entity which has formed part of the reorganisation.

The most common ways in which a business or shareholding structure can be restructured is through:

• A two party share for undertaking swap
• A three party share for undertaking swap
• A share for share exchange
• Intra-group transfers

Each relief under each relevant tax head has specific rules that need to be met and in most cases, clawback provisions apply so care is needed with regard to a subsequent sale of any impacted entities post restructure.

Is there excess cash to be utilised or extracted prior to a sale?

Where a company has built up cash reserves over the years and there is a potential sale, there are tax considerations for the ways in which the cash can be utilised. It may be possible to avail of a corporation tax deduction or claim an exemption. Some of the ways in which vendors may use the cash prior to a sale are as follows:

• Special contribution to a pension scheme for the directors/employees.
• Termination payments to directors/employees who are due to cease employment prior to or as part of the sale.

In the case of payment of dividends to shareholders, depending on whether the recipient is an individual or corporate and tax resident in Ireland, the withholding tax implications and taxation on receipt will differ. In all cases, a dividend will not be tax deductible for corporation tax purposes.

It should be noted that where cash remains within the company at the time of sale and the cash balance results in an upward price adjustment, the additional consideration will be subject to stamp duty at the relevant rate. Stamp duty will be a liability for the buyer.

There is also an anti-avoidance provision which applies to transactions between closely held companies. Where there is an arrangement between the vendor and buyer which results in the disposal of the interest by the vendor being funded from the assets of the target company, then such an amount will be reclassified as a distribution (rather than consideration from the disposal of shares). This can have withholding tax considerations for the target company, in addition to, a different tax treatment for the vendor (income tax rather than capital gains tax).

Structure of the sale proceeds

In a number of cases, the vendor will need to continue to work with the business for a period after the sale in order to preserve goodwill or minimise disruption. This will often be structured through either a rollover of the vendor’s original investment or an element of deferred consideration (‘earn out’) built into the share purchase agreement.

Rollover of original investment

In Ireland, it is possible to exchange shares in the target company for shares in the acquiring entity with no capital gains tax arising for the vendor. The gain is ‘deferred’ through the vendor inheriting the original base cost and date of acquisition of the shares held in the target company. The new shares in the acquiring company are considered to be the same ‘asset’ as the original shares in the target company such that no disposal/acquisition is considered to have arisen for capital gains tax purposes. This means that when the vendor ultimately sells their ‘new’ shares in the acquiring entity, the full capital gains tax liability will crystallise.

The relief is only available for capital gains tax purposes and stamp duty will arise on the value of the cash and non-cash consideration paid/issued to the vendor.

Deferred consideration

Deferred consideration can be structured in many different ways and will depend on the underlying business and how performance is measured. For example, it can be dependent on certain turnover or EBITDA targets, or it can be as a result of the outcome of an uncertain future event like a new contract being secured or a refinancing.

Generally speaking, capital gains tax arises on the full consideration irrespective of whether there is a contingency attaching to the consideration. This means a vendor will be taxed on the full consideration under the share purchase agreement irrespective of whether it has been received or not.

In the case of deferred consideration which is dependent on the outcome of future events which are uncertain, the treatment for the vendor will be dependent on whether the consideration is considered ‘ascertainable’ or not. Based on tax case law, unascertainable consideration is considered a ‘separate asset’ which is required to be valued at the day of sale (i.e. the right to receive). Where future proceeds are then received, the capital gains tax arising is calculated by reference to the original valuation at the time of sale and the amounts ultimately received.

Generally speaking, where deferred consideration is subject to an overall cap then it will be considered ‘ascertainable’ and will be taxed upfront. This is sometimes beneficial, particularly if participation exemption is being claimed. Where the deferred consideration is not fully received, legislation allows for an amendment to the capital gains tax computation.

Conclusion

The sale of a business is usually a critical event for a vendor(s) and success is generally measured by reference to the net proceeds received.

Where a business has been built up over the years, there can be some tidy ups required as part of the sale and the tax implications of these tidy ups should be carefully considered such that unintended tax consequences do not erode the overall value of their investment. Furthermore, vendors should also consider their future with the company post sale in order to ensure they can maximise their overall return from their hard-earned investment.

Authors

John Murphy

Partner, PwC Ireland

Direct: +353 1 792 6439

Mobile: +353 (87) 282 7325

Email: john.x.murphy@pwc.com

John is a Corporate Tax Partner leading the Tax M&A Group for PwC Ireland. John has wide experience of tax due diligences, vendor due diligences, preparation of tax structuring reports, SPA negotiation and the review of tax elements of financial models.

Rebecca Greene

Director, PwC Ireland

Direct: +353 1 792 5059

Mobile: +353 86 1046502

Email: rebecca.greene@pwc.com

Rebecca is a Director on the Tax M&A Group. She has over 12 years experience in managing M&A transactions across a variety of industries. She also leads the Irish firm’s Energy Utilities and Resources tax group.

Rebecca has lectured extensively for the Institute of Chartered Accountants since 2010.