The flurry of M&A activity in the asset management sector in recent years has been widely reported. Institutional Investor says that “firms engaged in a record level of M&A transactions last year,” with a 50% increase in the number of deals over 2020. PwC called the 2021 market “scorching hot.” The opportunities to grow assets, drive efficiency, access new technology, and break into new products and markets continue to be powerful motivators to seek out partnerships that make sense.
However, amid all the excitement surrounding these deals, teams of financial analysts, accountants, auditors and lawyers are burning the midnight oil to make sure these transactions pass muster with tax authorities. In our “Accelerating Success in Asset Management Acquisitions” whitepaper, we cite the top 10 factors that can determine the success of a deal—a big one being the ability to identify and resolve tax issues that affect the assets changing hands.
The initial considerations for tax purposes are whether the transaction is structured as a stock or asset deal and whether it is taxable or tax-free. These have a material impact on the adjusted tax basis and holding period of the assets involved. A stock acquisition typically gives rise to an “inside-outside basis difference,” in which the buyer’s basis in the target company (the outside basis) is different from the target company’s basis in its own assets (the inside basis). The buyer can file specific tax elections that treat a stock acquisition as a deemed asset acquisition. However, this will likely trigger a “purchase price allocation,” meaning the buyer must allocate the purchase price across seven predetermined classes of assets of the target company, resulting in a “step-up” in the inside basis of the target assets, typically to their market values. In other words, the value of the assets and associated tax attributes in the hands of the seller are different than in the hands of the buyer.
Once all that has been sorted out, the buyer is ready to enter the newly acquired assets into a software system, which may have accounting capabilities not previously available to the seller. The buyer needs to understand the extent of tax calculations historically performed, and whether they were automated, manually processed, or a mix. The buyer then needs to assess how to transition the assets—whether to continue the historic treatment of the acquired assets or transition the entire portfolio to the new system and leverage its newly available features. This decision may raise significant tax filing and disclosure obligations.
Practically speaking, entering the portfolio into a system does not happen overnight. The assets can be entered into the system and a baseline before-and-after comparison performed. Some true-up adjustments will likely be required once the transition is complete. Once the accounts are moved and the reconciliation is complete, the book-to-tax differences must be quantified and reported, and may not be the same for the seller and buyer.
Our whitepaper goes into more detail and provides concrete examples of tax issues that acquirers may confront. The intent of the paper is to help parties to a transaction anticipate and plan for issues as the finer details are being ironed out. SS&C has decades of experience in helping asset management and insurance clients navigate complex M&A transactions. In our first post, we explored investment accounting impacts that require careful planning and, in some cases, expert assistance. Look for additional information around operational and data integrations as well. Download the "Accelerating Success in Asset Management Acquisitions" whitepaper to see the complete “top 10” list and gain some valuable insight into the issues that can make all the difference in the success of a transaction.
Written by Stan Sczcepanik
Managing Director and Head of Insurance Solutions