Virus Loss Benefit Less Likely to Stir Merger Agreement Troubles

Large companies that made a recent acquisition can more easily avoid sending tax refunds for losses to their new entities’ previous owners, under temporary pandemic-relief rules from the IRS.

The third Covid-19 relief law, known as the CARES Act (Public Law 116-136), permitted companies to carry losses back five years to trigger retroactive tax breaks. But the legislation left open a question: what happens when a consolidated group of companies that file a single tax return wants to carry back losses, but a new entity they bought in the last couple of years would carry losses back to the time when it was under different ownership? That situation would potentially result in refunds being delivered to the entity’s previous parent company.

The IRS issued temporary rules July 2 that allow groups of companies with newer members to waive some but not all of their ability to carry back losses. Otherwise, they might be forced to forgo the new liquidity benefit altogether to avoid the risk of having to send a refund to, or amend the return of, another group of companies—which can lead to thorny contractual issues, tax professionals said.

“When you do an M&A transaction, the sellers are always hesitant to allow the buyer to amend the return of the sellers, because you’re not buying the whole consolidated group, you’re just buying a subsidiary,” said Kevin M. Jacobs, a former IRS official and now managing director at Alvarez & Marsal Taxand in Washington.

“The sellers don’t give the buyers access to all of the sellers’ tax returns, but that’s what they would need in order to carry back the net operating loss,” he said.

The issue is a common one, Jacobs said, adding that the rules are “definitely helpful” and there have been calls for such guidance among the tax law community.

Miri Forster, a principal at EisnerAmper in Iselin, N.J., echoed these sentiments, saying that the issue has “come up for clients,” some of which went back to check their merger agreements.

“The deals were negotiated based on different provisions,” she said. “The temporary regs allow the parties to reflect the economics of the deal that was negotiated, so that’s why they may want to waive all or a portion of their NOL carryback period.”

Along with these temporary rules, the IRS also released a set of proposed rules for how consolidated groups of companies can apply the 2017 tax code overhaul’s limit on use of losses, including if they contain entities with losses from farming or non-life insurance businesses, which aren’t subject to the 2017 law’s restrictions.