IRS Issues Regulations Regarding the Valuation of Stock-based Consideration Packages in M&A Transactions

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On December 19, 2011, the IRS finalized prior temporary regulations and issued additional proposed regulations regarding the valuation of stock-based consideration packages for purposes of the “continuity of interest” requirement applicable to most tax-free reorganizations under Section 368 of the Internal Revenue Code. In general, the continuity of interest requirement dictates that a minimum percentage of a consideration package by value must be in the form of the acquiring corporation’s stock (generally assumed to be about 40%). In addition, if the value of the acquiring corporation’s stock is measured as of the closing date, the possibility of price fluctuations between signing and closing can make the tax treatment of a transaction uncertain. In order to address this issue, the final regulations define the circumstances under which the acquiring corporation’s stock will be valued as of the last business day before the day on which a deal is signed (referred to as the “signing-date rule”). As a result, pursuant to the signing-date rule, a transaction may still qualify as tax-free even if the relative value of the acquiring corporation’s stock declines between signing and closing.

The following basic example illustrates the signing-date rule contained in the final regulations...

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