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Top Exit Triage – Tax

11 June 2020

Our years of experience of advising tech companies on M&A have shown us that there are a number of key issues which commonly crop up, risking lower valuations or, in the worst case, stopping a transaction. This is particularly the case with IT and business services/enterprise software businesses.

One of these issues is tax – being badly prepared can be costly for a seller.  Below we outline some pointers, along with a few war stories:

1.    Impact of tax issues

A buyer will want to know that the company’s tax affairs have been run properly so that there is no lingering tax liability. In a typical sale process, the seller(s) will give a tax indemnity in favour of the buyer.  This means that the seller(s) will be liable for all pre-completion tax liabilities of the company.  We have found that you can hardly ever correct past mistakes when it comes to tax matters and where companies get this wrong there can be serious ramifications for a sale process.

2.    Keep it simple

From our experience, the key message with tax is ‘keep it simple’!  Companies with complex tax planning arrangements often end up tying themselves in knots, with unforeseen problems arising from schemes that were not properly thought through.

3.    Instruct good advisors

Obtaining proper professional advice when setting up any tax planning scheme, including EMI and other share option schemes, is important to make sure that everything is done correctly.  Although they may be pricier than the company’s usual advisers, paying a bit less at the outset for such advice is often a false economy.

4.    Don’t do the following

These are examples of acts undertaken by companies (which were later sold) discovered by a buyer during their due diligence:

  • changing the entity employing staff from a limited company to an LLP for tax efficiency.  As a result, the company’s share option plan no longer met the requirements of being an approved EMI option scheme, meaning that some of the options granted gave rise to tax liabilities (resulting in a price reduction of c.£300k).
  • paying part of a director’s salary to his wife and daughter, which amounted to tax evasion (and delayed the transaction by almost 4 months).
  • employing an individual but paying part of his salary to his own service company (which did not provide services to the company).  All payments to the service company were deemed to be income of the individual and therefore subject to tax (resulting in a price reduction and some difficult discussions between the buyer and the sellers).

Authors

Portrait ofElliot Cowan
Elliot Cowan
Partner
London