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Managing Compensation Due Diligence in Corporate Take Overs
A due diligence review is central to the success of any corporate takeover and in the past, compensation issues have been covered at a very high level as part of the general taxes review. However , at a time when Tax Authorities, and the general public, are intensifying their focus on "best practices", "timely compliance" and "disclosure" of compensation policies, it is more advisable than ever to give compensation tax issues a role of their own in the due diligence process. That is especially true for cross-border merger and acquisition processes where the companies involved must deal with integrating and managing employee compensation schemes affected by tax legislations of different countries. Taxand Spain outlines some of the key areas that should be reviewed within a specific compensation tax due diligence in an international corporate takeover.
1. Benefits review
Most, if not all jurisdictions, provide for specific tax treatments on a wide range of benefits when they are paid in kind, instead of cash. This is the case, among others, of company car policies, home lease contracts, and various types of medical insurance. However, the tax treatment varies greatly from one country to another.
When deciding which of these policies should be maintained, extended to the group, amended to local practice or suppressed following the corporate takeover, directors should carefully review if there is any beneficial tax treatment available in the jurisdictions involved that should be targeted or, otherwise, risked to be lost.
2. Equity and deferred incentive plans
It is very common for deferred compensation plans to provide for an acceleration of vesting in cases of change of control. This raises the question of how will payments be taxed in the corresponding jurisdiction in order to avoid any liabilities arising from the takeover process itself which cannot be specifically accounted for in the sale and purchase agreement.
Alternatively, if the company is considering rolling over the scheme, it should carefully review (i) that the said roll over is effectively tax neutral in the corresponding jurisdiction and (ii) which company will be liable for practicing withholdings in future settlements of the incentive.
It should be noted that some jurisdictions will always seek withholding payments from the employing company, even if the incentive has been rolled over to the parent company abroad.
3. Golden parachutes and termination payments
Without doubt, golden parachute agreements may represent a significant extra cost in any corporate deal. Still, some jurisdictions provide for strategies to optimise the tax cost of those payments, which may end up saving the company a relevant amount of money, in particular, when the indemnities where agreed net of taxes. Some of these strategies include the use of saving or insurance vehicles linked to retirement.
As regards future termination payments of employees who were moved to a different country following the corporate takeover, HR and Tax directors alike should be aware that many jurisdictions will seek to tax a portion of the termination indemnity finally paid, according to the so called "pro rata" rule.
5. Payroll, reporting and tax payment dates
Life indeed goes on after the restructuring process is over: salaries have to be paid, withholdings have to be remitted and report forms have to be filed, and all that in a timely fashion. One of the key issues is, therefore, to make sure that the HR and Tax directors are aware, in advance, of the immediate compensation tax compliance deadlines following "Day One" after the takeover, in particular, if Comp & Ben management has been shifted from the local company to a parent company abroad.
Within any corporate merger or acquisition deal, a due diligence reviews is a key process to avoid unexpected costs in the future.
Tax authorities and legislators across developed countries are putting remarkable pressure on identifying deviations from best tax and compliance practices, which may ultimately indicate a hidden tax liability. This is particularly challenging for multinational corporations which have to deal with many different jurisdictions.
It is because of both factors above that the traditional due diligence approach is being broken down in increasingly specific areas of review, including compensation taxes, independent of the broader tax review.
Conducting a thorough compensation tax due diligence will allow the company not only to flag potential payment obligations, but also to:
a) Take decisions on which benefit policies should be extended at a group level or kept local.
b) Optimise taxes on any indemnities or incentives to be paid.
c) Ensure that payroll and withholding obligations are met, thus enabling the company to function normally throughout and right after the takeover (key aspect of perceived success).
Directors at multinational corporations contemplating a possible cross border deal should therefore dedicate a team to specifically handle the compensation tax area, designated to not only carry out due diligence but also help to bridge the usual gap between the tax specialists and the HR staff of your business.
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