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Expecting a Step-Up on Your S Corporation Acquisition? Structure Carefully
In the current economic climate, there is an increased focus on any opportunity to improve cash flow. For acquirers of Subchapter S corporations, this often means ensuring the availability of a step-up in the tax basis of the S corporation's assets. The challenge is that anyone who has acquired (or attempted to acquire) an S corporation knows that they have their complications. Taxand US discusses the alternatives available to ensure the buyer gets a step-up.
There are at least three ways to achieve a step-up in asset basis in connection with the purchase of an S corporation:
- A straight asset acquisition
- The acquisition of the stock of the S corporation with a Section 338(h)(10) election
- The use of a limited liability company (LLC) structure
Buyers often assume that the step-up associated with the acquisition of an S corporation is something that happens as a matter of course. In fact, a number of issues that might arise could limit the availability of the step-up. For example, a failed election would eliminate the availability of the step-up. This is a very bad result where the step-up had been "paid for" (i.e., the purchaser compensated the seller for the incremental taxes associated with the election and/or included the benefit of the increased amortisation deductions in their model and/or purchase price).
There are a number of potential structural solutions. However, as noted above, many are form driven and need to be properly structured to achieve the desired result - that is, the availability of the step-up.
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