Tax planning essentials for successful M&A transactions

Ensuring that a business is ‘transaction ready’ is critical for a tax-efficient transaction. This article highlights key pre-transaction considerations to help you navigate the tax landscape in M&A, and ensure a smooth and optimal transaction.

The decision to sell your business – or buy another – is an extremely important one, and significant time can be spent negotiating sale price. However, the structuring of a deal is often overlooked and can have a greater financial impact than the price differential at negotiation. 

1. What type of sale do you want to undertake?

The primary decision in buying or selling a business is whether the transaction will take place as an asset or share sale. 

An asset sale does not typically include the transfer of the historical tax liabilities of a business (including the underpayment of tax), hence can be preferred by the buyer. 

However, the transfer of tax history that takes place under a share sale has its advantages, such as inheriting unused losses and franking balances. 

Commerciality will ultimately drive the nature of deal, however it’s important to understand the tax consequences of the two different deal structures as part of this process.   

2. If it’s a share sale, is the group currently in a sale ready state?

When buying or selling a business, it’s imperative that the legal structure of the business subject to the transaction is appropriately and efficiently structured. 

Some primary considerations are:

• Will the deal be the acquisition or disposal of an entire business, or a portion of it? 
• Will there be a requirement to transfer assets or liabilities in/out of the existing business pre-transaction?
• Does the seller want to pay a pre-transaction dividend to benefit from the franking credits the business accrued under their ownership?

3. Tax Consolidation, Demerger Rollover Relief and Distribution of Dividends

To action the above pre-deal transactions, consideration should be applied to:

• Benefit and pitfalls of tax consolidation. Tax consolidation provides the opportunity to transfer assets and liabilities within the group without any income tax consequences. However, if not already consolidated, this process requires a formation calculation to take place. An analysis needs to be undertaken to determine the consequences of this. 
• Distribution of dividends in a manner which ensures that franking credits can be used, and the dividend maintains its nature. Dividends can be recharacterised as proceeds for the disposal of shares in certain circumstances, which eliminates the ability to claim the benefits of the franking credits. 
• Application of demerger rollover relief, where there is the desire to only acquire/dispose of an aspect of the business.

4. Funding the acquisition 

From the buyer’s perspective, to determine if an acquisition is feasible, it’s imperative to consider the tax implications of how the acquisition is funded. Some key considerations include:

• Where the acquisition is partially or wholly funded through a loan, does the loan meet the definition of a debt instrument for tax purposes (which has its own definition district from general legal or contractual concepts)? Where this definition is not met, the loan-related payments (e.g. interest) may not be deductible.
• Where the funding does meet the definition of debt for tax purposes, are there restrictions on the deductibility of the debt deductions? This is particularly relevant for international groups or cross border loans, where the thin capitalisation rules (which places and annual cap on interest deductions) and withholding tax rules apply. 
• Where the acquisition is wholly or partly funded through equity, does the change in share ownership impact the acquirer in any aspect, such as the ability to carry forward their historic accumulated tax losses under the continuity of ownership test? 
• Where the acquisition is wholly or partly funded by a third party through the future rights to income/produce (for example, an override royalty in the mining space), there is a risk that the funds received in providing this right is outright taxable.
• Where there is a cross-border funding arrangement for which withholding tax may be imposed, does a ‘tax gross-up clause’ exist, and has consideration been applied to the costs of this? This can often increase the cost of funding by as much as 30 per cent. 

5. Structuring of the deal itself 

Once a decision has been made to enter into a deal, the tax implications of the nature purchase price need to be considered. Some key aspects to consider are as follows:

• Where the deal includes a scrip for scrip rollover, will it be structured in a manner that allows for rollover relief? 
• Where the deal has an earn-out aspect to the purchase price, is the earn-out linked to the future economic performance of the business being acquired, or something else? Where it’s the former, the earn out paid/received is deemed to be part of the initial purchase price, which is typically advantageous from a tax perspective and ensures that tax is not paid on unrealised gains. However, where it’s the latter, the earn-out payments are likely to be viewed as a separate CGT asset to the upfront proceeds and is typically a lesser preferred outcome as it taxes unrealised gains (among other things).   

6. Duty and GST structuring considerations

In addition to the above, it is crucial to address the implications of duty and GST structuring in M&A transactions. Key considerations include understanding the stamp duty implications and exploring exemptions or concessions to minimise stamp duty, as well as managing GST implications by determining whether the transaction involves the sale of a going concern or other GST exemptions.

Next steps for a successful M&A transaction

At Grant Thornton, we specialise in providing comprehensive tax advisory services. Our team is here to help you navigate the complexities of tax planning and ensure a smooth and tax-efficient transaction. If you are considering a merger or acquisition, please contact a member of the team.