48th Annual Bank & Capital Markets
Annual Tax Institute

Mergers & Acquisitions
Nick Gruidl - McGladrey Washington Nationa...
Topics
Section 382:
 Cash issuance exception: How it works.
 Investment advisers and family of funds: Who is a 5% shareh...
Section 382 & Related Topics

2
© 2012 McGladrey LLP. All Rights Reserved.
Cash issuance exception: How it works.
 Many banks have and continue to be required to to raise
significant capital throu...
Cash issuance exception: How it works.
 To the extent the cash issuance exception applies, the stock
subject to the excep...
Cash issuance exception: How it works.
Example 1:
1. Direct 5% shareholders own 20% of LossCo and 20% is the
lowest during...
Cash issuance exception: How it works.
Example 1:
1. Direct 5% shareholder owns 2M/30M or 6.7% = 0% increase
over lowest %...
Cash issuance exception: How it works.
Example 2:
1. Direct 5% shareholders own 70% of LossCo and 70% is the
lowest during...
Cash issuance exception: How it works.
Example 2:
1. Direct 5% shareholder owns 7M/30M or 23.3% = 0% increase
over lowest ...
Investment Adviser: 5% shareholder or not?
SEC SC 13D/G filings by 5% Shareholders:
 Regulations allow SEC filiers to rel...
Investment Adviser: 5% shareholder or not?
Example:
1. LossCo Bank has significant NOLs and BILs that would be
subject to ...
Family of Funds: 5% shareholder or not?
SEC SC 13D/G filings by 5% Shareholders:
 Family of funds generally file a single...
Loan Loss Reserves and Built-in Losses
 In general, any built-in loss recognized by a net unrealized
built-in loss (NUBIL...
Built-in Losses & AMT: ILM 201326013
 Despite the 12 month bad debt safe-harbor provided in Notice
2003-65, significant A...
ILM 201326013: NUBIL & Notice 2008-83
 Notice 2008-83 (Wells Fargo/Wachovia): short lived notice that
provided bad debt f...
Taking out TARP
 Numerous banks are raising funds to take out TARP financing
 Various IRS Notices provided rules to alle...
Taking out TARP
Example:
 LossCo has 50 shares of common with FMV $20M
 LossCo has 50 TARP shares with FMV $20
 If Loss...
Section 382 & S Corporations
 M&A activity and the need to raise capital has resulted in
numerous S corporation banks los...
ASC 740

18
© 2012 McGladrey LLP. All Rights Reserved.
Purchase Accounting Issues:

 Stock Sale vs. Asset Sale
 GAAP tax treatment on M&A transactions
 Deferred taxes on Good...
Section 597

20
© 2012 McGladrey LLP. All Rights Reserved.
Treatment of Federal Financial Assistance
Transactions:
 General Overview
 Financial statement treatment
 Treated as ta...
M&A Transaction Costs

22
© 2012 McGladrey LLP. All Rights Reserved.
M&A Costs: Expanded Safe Harbor for
Success Based Fees
 Success based fees paid to an investment banker/adviser
 Rev. Pr...
M&A Costs: Next-Day Rule
 When a corporation undergoes and M&A transaction there are
there are generally M&A related cost...
Circular 230 Disclosure:

This analysis is a not tax advice and is not intended or
written to be used, and cannot be used,...
Disclaimer
The information contained herein is general in nature and based on
authorities that are subject to change. McGl...
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6 3 20pm - mergers & acquisitions

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6 3 20pm - mergers & acquisitions

  1. 1. 48th Annual Bank & Capital Markets Annual Tax Institute Mergers & Acquisitions Nick Gruidl - McGladrey Washington National Tax Ron Kolodkin – McGladrey Los Angeles © 2012 McGladrey LLP. All Rights Reserved. © 2012 McGladrey LLP. All Rights Reserved.
  2. 2. Topics Section 382:  Cash issuance exception: How it works.  Investment advisers and family of funds: Who is a 5% shareholder?  Loan loss reserves as recognized built-in losses: Notice 2003-65 safe harbor  AMT Basis following an ownership change  ILM 201326013 on application of Notice 2008-83  Taking out TARP and the 382 impact  Sub Chapter S corporations and Section 382 ASC 740:  Purchase Accounting Issues Section 597:  Treatment of Federal Financial Assistance transactions M&A Transaction Costs:  Expanded application of success based fee safe harbors and the next-day rule 1 © 2012 McGladrey LLP. All Rights Reserved.
  3. 3. Section 382 & Related Topics 2 © 2012 McGladrey LLP. All Rights Reserved.
  4. 4. Cash issuance exception: How it works.  Many banks have and continue to be required to to raise significant capital through equity issuances  If the bank is a loss corporation (e.g. company with NOLs, built-in losses etc.), the issuance could cause an ownership change under section 382 thereby limiting the usage of NOLs as well as post-transaction losses (e.g. bad debts)  An ownership change occurs when there has been a greater than 50% increase in the ownership held by 5% shareholders  Limitation is based upon equity value, so depressed stock values could result is a drastic limitation  However, under the right circumstances, the cash issuance exception greatly decreases the likelihood of incurring an ownership change 3 © 2012 McGladrey LLP. All Rights Reserved.
  5. 5. Cash issuance exception: How it works.  To the extent the cash issuance exception applies, the stock subject to the exception is allocated to the existing public groups  Cash issuance exception: - Issuance solely for cash Amount of issuance not subject to segregation equal to the lesser of: • Total stock issued for cash multiplied by % equal to 50% of the % owned by public groups immediately before the issuance • Amount of the issuance not acquired by non-5% shareholders  Examples to follow 4 © 2012 McGladrey LLP. All Rights Reserved.
  6. 6. Cash issuance exception: How it works. Example 1: 1. Direct 5% shareholders own 20% of LossCo and 20% is the lowest during the testing period 2. Public group (PG1) owns 80% LossCo and 50% was the lowest during the testing period 3. LossCo has 10M shares prior to the issuance 4. LossCo issues 20M shares for cash in an issuance • • • CIE applies to 40% of the cash issuance (50% x 80% owned by public groups) or 8M shares Up to 12M shares could be acquired by direct 5% shareholders while still fully utilizing the CIE No shares are acquired by the existing direct 5% owner 5 © 2012 McGladrey LLP. All Rights Reserved.
  7. 7. Cash issuance exception: How it works. Example 1: 1. Direct 5% shareholder owns 2M/30M or 6.7% = 0% increase over lowest % 2. PG1 owns 16M/30M or 53.3% = 3.3% increase over lowest % • 5M acquired under the CIE 3. PG2 owns 12M/30M or 40% = 40% increase 4. Cumulative increase = 43.3% and no ownership change has occurred despite the fact the number of shares increased from 10M to 30M 6 © 2012 McGladrey LLP. All Rights Reserved.
  8. 8. Cash issuance exception: How it works. Example 2: 1. Direct 5% shareholders own 70% of LossCo and 70% is the lowest during the testing period 2. Public group (PG1) owns 30% LossCo and 30% was the lowest during the testing period 3. LossCo has 10M shares prior to the issuance 4. LossCo issues 20M shares for cash in an issuance • • • CIE applies to 15% of the cash issuance (50% x 30% owned by public groups) or 3M shares Up to 17M shares could be acquired by direct 5% shareholders while still fully utilizing the CIE No shares are acquired by the existing direct 5% owner 7 © 2012 McGladrey LLP. All Rights Reserved.
  9. 9. Cash issuance exception: How it works. Example 2: 1. Direct 5% shareholder owns 7M/30M or 23.3% = 0% increase over lowest % 2. PG1 owns 6M/30M or 20% = 0% increase over lowest % • 3M acquired under the CIE 3. PG2 owns 17M/30M or 56.7% = 56.7% increase 4. Cumulative increase = 56.7% an ownership change has occurred 5. Key issue in CIE is the amount owned by existing public groups prior top the issuance 8 © 2012 McGladrey LLP. All Rights Reserved.
  10. 10. Investment Adviser: 5% shareholder or not? SEC SC 13D/G filings by 5% Shareholders:  Regulations allow SEC filiers to rely upon SC 13D/G filings in determining the existence or nonexistence of 5% shareholders  However, SEC ownership is based upon “beneficial ownership” while Sec. 382 is based upon “economic ownership” -   Right to proceeds and distributions Most Investment Advisers (IA) do not hold shares for their own account, but rather they are reporting the shares held on behalf of their clients for which their clients are the economic owners As a result, many IAs are not 5% economic owners and the changes in their ownership can be disregarded - PLR 200747016 9 © 2012 McGladrey LLP. All Rights Reserved.
  11. 11. Investment Adviser: 5% shareholder or not? Example: 1. LossCo Bank has significant NOLs and BILs that would be subject to a severe Sec. 382 limitation in a change occurs 2. LossCo intends to raise capital through a stock issuance 3. The issuance (after taking into account the CIE) would bring the cumulative shift to 52% and would cause an ownership shift 4. One of the 5% shareholders is an IA that reported 8% ownership resulting in an 8% cumulative increase 5. However, the IA states in the SC 13 that the shares are held on behalf of their clients and that to the best of their knowledge no client own 5% or more of Lossco 6. As a result, the IA is disregarded as is the 8% cumulative increase resulting in only a 44% cumulative increase 10 © 2012 McGladrey LLP. All Rights Reserved.
  12. 12. Family of Funds: 5% shareholder or not? SEC SC 13D/G filings by 5% Shareholders:  Family of funds generally file a single SC 13 reporting their ownership (e.g. XYZ Fund I, II, III)  However, the funds generally have different owners and may share a GP that makes investment decisions  In general, these funds do not represent shareholders making a “coordinated acquisition” and therefore would not generally represent a single 5% shareholder -  PLR 200806008 As a result, only a fund that itself owns 5% or more of LossCo would generally represent a 5% shareholder - - So, a family of funds reporting 12% with 3 funds each owning 4% may be disregarded entirely in determining whether an ownership change has occurred As with prior example this distinction could significantly reduce the likelihood of a change 11 © 2012 McGladrey LLP. All Rights Reserved.
  13. 13. Loan Loss Reserves and Built-in Losses  In general, any built-in loss recognized by a net unrealized built-in loss (NUBIL) company during the 60 month period following an ownership change  Recognized built-in losses include OREO and bad debt deductions recognized on loans held at the time of an ownership change  Notice 2003-65 provides two safe harbor approaches for determining built-in gains and losses - - Section 1374 method treats any bad debt deduction incurred within the 12 month period following the ownership change as RBIL if the debt was owed to LossCo on the date of the ownership change Recognition period therefore shortened to 12 months on loans where taxpayer applies the Section 1374 method IRS confirmed in PLR 201105031 12 © 2012 McGladrey LLP. All Rights Reserved.
  14. 14. Built-in Losses & AMT: ILM 201326013  Despite the 12 month bad debt safe-harbor provided in Notice 2003-65, significant AMT exposure may exist for a NUBIL company following an ownership change  Sec. 56(g) provides rules for determining adjusted current earnings (ACE), which is used in determining AMTI  Sec. 56(g)(4)(G) requires that if a NUBIL undergoes an ownership change, the asset basis for ACE is reduced to the assets proportionate of the FMV of total assets  As a result, despite the fact that a bad debt may not represent an RBIL, the loan generating the bad debt may be written down for ACE purposes thereby increasing AMTI - Assuming the annual section 382 limitation is very low the company may generate AMTI liability  Could also impact E&P and treatment of future distributions as dividends versus return of capital 13 © 2012 McGladrey LLP. All Rights Reserved.
  15. 15. ILM 201326013: NUBIL & Notice 2008-83  Notice 2008-83 (Wells Fargo/Wachovia): short lived notice that provided bad debt following an ownership change did not represent RBIL - Basically expanding the Sec. 1374 method to bad debts within 12 months Notice only applied until January 16, 2009  Taxpayer took the position that Notice 2008-83 allowed the taxpayer to remove the loans from the NUBIG/NUBIL calculation thereby causing the company to be a NUBIG - Would serve to eliminate all RBIL including OREO  In the ILM (and two others almost identical) the IRS held that Notice 2008-83 had no impact on NUBIG/NUBIL as it only dealt with the treatment of bad debt and RBIL - RBIL & NUBIL are separate calculations and analyses 14 © 2012 McGladrey LLP. All Rights Reserved.
  16. 16. Taking out TARP  Numerous banks are raising funds to take out TARP financing  Various IRS Notices provided rules to alleviate the Sec. 382 impact of the Treasury’s TARP acquisitions - Notices 2008-84 & -100, 2009-14 & -38  One of those notices provides that the Treasury will not be considered a new 5% shareholder upon a conversion of TARP preferred into non TARP securities (e.g. common stock)  However, the notices do not alleviate the impact of increases related to issuances of funds used to repurchase the TARP - e.g. Bank issues stock for cash to the public  Is it possible to have the treasury convert their TARP shares for common and then sell those shares to the public?  If so, then sales by the treasury to less than 5% shareholders would not result in an increase in ownership 15 © 2012 McGladrey LLP. All Rights Reserved.
  17. 17. Taking out TARP Example:  LossCo has 50 shares of common with FMV $20M  LossCo has 50 TARP shares with FMV $20  If LossCo raises $20M for 50 shares of new common there will be an increase in ownership for Sec. 382 (subject to CIE)  Assume Treasury converts to common and then sells the shares in an offering to the public and no one shareholders becomes a 5% shareholder as a result - New public group is created and owns 50% of LossCo; however, under the notices 50% is the lowest % deemed owned by the group resulting in a 0% increase 16 © 2012 McGladrey LLP. All Rights Reserved.
  18. 18. Section 382 & S Corporations  M&A activity and the need to raise capital has resulted in numerous S corporation banks losing their Subchapter S status  Loss of an S election results in the bank becoming a Subchapter C corporation  A loss company includes a company with NOLs as well as a company with a net unrealized built-in loss (NUBIL)  An S corporation that becomes a C corporation and is in a NUBIL position is subject to section 382 despite the fact that no NOLs exist 17 © 2012 McGladrey LLP. All Rights Reserved.
  19. 19. ASC 740 18 © 2012 McGladrey LLP. All Rights Reserved.
  20. 20. Purchase Accounting Issues:  Stock Sale vs. Asset Sale  GAAP tax treatment on M&A transactions  Deferred taxes on Goodwill  Deferred taxes on other assets 19 © 2012 McGladrey LLP. All Rights Reserved.
  21. 21. Section 597 20 © 2012 McGladrey LLP. All Rights Reserved.
  22. 22. Treatment of Federal Financial Assistance Transactions:  General Overview  Financial statement treatment  Treated as taxable asset acquisitions for tax purposes  Six year rule and highest guaranteed value  Other issues 21 © 2012 McGladrey LLP. All Rights Reserved.
  23. 23. M&A Transaction Costs 22 © 2012 McGladrey LLP. All Rights Reserved.
  24. 24. M&A Costs: Expanded Safe Harbor for Success Based Fees  Success based fees paid to an investment banker/adviser  Rev. Proc. 2011-29 provides 70% safe harbor from capitalization  Recent IRS directive allows application of the safe harbor to certain milestone payments paid to an investment adviser if such payments are nonrefundable and creditable against the success based fee © 2012 McGladrey LLP. All Rights Reserved.
  25. 25. M&A Costs: Next-Day Rule  When a corporation undergoes and M&A transaction there are there are generally M&A related costs incurred on or around the transaction date  When the target is entering a consolidated group the “next-day” rule may allow the target to deduct the costs on the post transaction period return - Must be reasonable and consistently applied by each party  Recent GLAM issued by the IRS confirms the position of the service that the next-day rule is not reasonably applied to success based fees and compensation deductions for prior services - Taxpayers often seek to push these deductions into the post transaction period  Premiums and other deductions related to debt paid off at closing may be eligible for the next-day rule © 2012 McGladrey LLP. All Rights Reserved.
  26. 26. Circular 230 Disclosure: This analysis is a not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. © 2012 McGladrey LLP. All Rights Reserved.
  27. 27. Disclaimer The information contained herein is general in nature and based on authorities that are subject to change. McGladrey LLP guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. McGladrey LLP assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein. This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. Circular 230 Disclosure This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. McGladrey LLP is the U.S. member of the RSM International (“RSMI”) network of independent accounting, tax and consulting firms. The member firms of RSMI collaborate to provide services to global clients, but are separate and distinct legal entities which cannot obligate each other. Each member firm is responsible only for its own acts and omissions, and not those of any other party. McGladrey, the McGladrey signature, The McGladrey Classic logo, The power of being understood, Power comes from being understood and Experience the power of being understood are trademarks of McGladrey LLP. © 2012 McGladrey LLP. All Rights Reserved. © 2012 McGladrey LLP. All Rights Reserved.

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