Prevent private equity value erosion with proper tax planning

This is one of seven private equity value creation strategies we have compiled into our guidebook. Download the entire guidebook here.

Following the close of an acquisition, private equity firms should address (and remedy) any material issues identified during tax due diligence, and determine the optimal short-term and long-term tax positions and strategies. Having an organized, methodical tax approach will help prevent costly mistakes and time-consuming data-gathering efforts, as well as ensure a successful road ahead for value creation.

Nine tax considerations

During the first 100 days, private equity firms should devote attention to any material tax exposures identified during due diligence. The buyer should also retain a tax preparer to identify any additional information not currently being collected but needed to prepare future returns. Accordingly, the buyer and tax preparer should consider the following nine items (note, the list is not intended to be all inclusive):

1. Purchase price allocation and the resulting impact on the effective tax rate
2. Estimated quarterly tax payments, including identification of all filing requirements
3. Voluntary disclosure agreements for state exposures identified during due diligence
4. IRS filings/elections that must be made prior to the filing of the tax return for the year of the acquisition (e.g., Sec. 338(h)(10) election / Form 8023)
5. New IRS filings/elections for the post-acquisition period
6. Automatic and non-automatic tax accounting method changes (a non-automatic accounting change must be filed during the tax year the change is to be implemented)
7. Deductibility of interest expense on acquisition debt
8. Transaction cost analysis to determine whether costs are deductible, capitalizable to assets that are depreciable or amortizable, or capitalizable to assets that are not depreciable or amortizable.
9. Restrictions placed upon the acquired entity’s tax attributes resulting from the change-in-control (e.g., Section 382 limitations)

Data collection for tax reporting

Tax planning and optimal tax positions depend on the source data, the proper interpretation of the data, and an understanding of future expansion plans. If the data required is not currently gathered or is organized in an inefficient manner, private equity firms may have difficulty supporting and defending that tax position if challenged. Simply stated, information that may be readily available at one time, may be very difficult to collect and organize after the fact. Policies and processes should be reviewed from both a historical and future perspective to determine whether any information gaps exist, or will exist due to business expansion. Common data collection issues to be considered include, but are not limited to the following:

• Tracking additional sales and customer detail (e.g., origin, destination, and customer location)
• Tracking employee travel and the use and location of independent contractors
• Monitoring and tracking of property located off-site (e.g., storage, transit, or consignment)
• Identifying different revenue streams (e.g., online sales) and the corresponding sales tax treatment of each stream

Tax planning for a growing business

As noted above, it is not uncommon for the buyer or the acquired company to make significant changes after an acquisition to its geographical footprint, customer base, revenue streams, and operations. The buyer should evaluate how its business plan and strategy will impact the buyer’s or the acquired company’s existing tax reporting requirements and overall tax strategy, while looking to create next-level value creation.

For example, the expansion into a new jurisdiction may result in additional income tax filings and a variety of other filings, such as sales, use, employee withholdings, property, and value-added (VAT) taxes, as well as custom duties. Additionally, as the business expands, it may be necessary to consider changes to the entity structure from both a domestic and foreign perspective to accomplish the desired business, legal, and tax objectives.