LB&I provides roadmap for examining costs in an M&A transaction
On July 2, 2018 the IRS LB&I issued a Practice Unit to address the examination of transaction costs primarily addressing the application of Reg. section 1.263(a)-5 to costs incurred in an M&A transaction.
Issuance of this document by the IRS provides taxpayers with a wealth of information as to what the IRS is likely to review in examining the taxpayer’s treatment of costs surrounding an M&A transaction. In essence it is a roadmap to understanding the IRS view on application of existing authorities including case law and Reg. section 1.263(a)-5.
The Practice Unit looks to three major topics:
- Who is the proper legal entity claiming the deduction: In general, the costs incurred in M&A transaction should be claimed by the party for which the costs were incurred on behalf of and for the benefit of. In an M&A transaction it is not always clear whether costs were incurred on behalf of and for the benefit of the target, the purchaser or in limited circumstances even the shareholders of the target.
- Whether costs are facilitative of the transaction: Costs that facilitate the transaction are subject to capitalization under Reg. section 1.263(a)-5, while costs that are not facilitative may give rise to an immediate deduction; however, they may also facilitate another transaction or may be subject to capitalization under other rules such as section 195. This section of the Practice Unit addresses items such as covered transactions, inherently facilitative costs and success based fees.
- Treatment of facilitative costs: Once it is determined that costs are facilitative they are subject to capitalization. This section of the Practice Unit addresses the proper method of capitalization depending upon the specific transaction that occurred.
While the LB&I Practice Unit is not a published ruling with the level of authority as a Revenue Ruling, it is a very helpful document to help taxpayers understand the IRS national office’s view on a variety of issues surrounding the treatment of M&A transaction costs. If taxpayers understand the IRS view on a specific cost or transaction it could lead to less disagreement under exam, but could also allow taxpayers to better understand areas in which there may be disagreement and allow taxpayers to better document their positions. Overall this is a very helpful document and we applaud the IRS for their effort in putting the Practice Unit together.
Treatment of transaction costs are subject to a complex set of rules and taxpayers should seek advice from a qualified tax professional prior to reporting costs on their income tax returns.
Click here to read more of our insights on who gets the benefit of M&A transaction costs.