Target is a C corporation / Sec 338 (h) (10) Election
January 17, 2021
by an investor from The University of Chicago - Booth School of Business in Chicago, IL, USA
Acquiring a company that is structured as a C corp is difficult as we all know. Other than a stock purchase (far from ideal from the buyer's perspective), it is often difficult if not impossible to get enough after-tax proceeds in the hands of the seller from an asset sale to make a transaction work. As a result, the Sec 338(h)(10) election is often touted as a solution ("best of both worlds"), but the election is often misunderstood. The [joint] Sec 338 (h###-###-#### election can only be used when the target is a U.S. corporate subsidiary of a parent company or when the target is an S-Corp. The election cannot be used when the target is a stand-alone C corp, and thus, it is typically of no value in many lower middle market circumstances. I thought it would be helpful to clarify the use of this election for those working with C corp sellers. Other than allocating valuation to employment agreements, covenants not to compete, and lease terms (none of which are ideal), I haven't seen many practical strategies that have been effective in this context. "Personal goodwill" often comes up in these discussions but I have yet to see a real world transaction where it has been part of the structure but I am interested in the experience of others. Any other tax strategies surrounding the acquisition of a C corp that have worked well for you and would be of value to the search community?
from Northwestern University in St. Louis, MO, USA
One of the key gating items is to confirm that the goodwill is a personal asset of the shareholder and not an asset of the corporation. Goodwill will be deemed an asset of the corporation if shareholders have signed a non-compete with the corporation. It's also possible that an employment agreement could construed as transferring the personal goodwill to the corporation.
With the right set of facts and if structured correctly, this approach can significantly reduce a seller's exposure to the 2 levels of taxation.
from Georgetown University in Chicago, IL, USA
Is it best to convert the structure post-transaction? What would be the ideal corporate structure to convert to if it’s currently a C-Corp and about to be acquired?
Thank you, it’s a bit relevant for me at this time.