M&A update: IBA Finance and Capital Markets Tax Virtual Conference 2021

Monday 12 July 2021

Lolade Ososami
Udo Udoma & Belo-Osagie, Lagos
lolade.ososami@uubo.org ​​​​​​

Report on a conference session at the tenth annual IBA Finance and Capital Markets Tax Virtual Conference 2021

Wednesday 10 February 2021

Session chair:

Jodi Schwartz  Wachtell Lipton Rosen & Katz, New York


Markez Markez  Oaktree Capital Management UK, London

Riccardo Michelutti  Facchini Rossi Michelutti, Milan

Michael Lane  Slaughter and May, London

Reto Heuberger  Homberger, Zurich


The panel discussed the current trends in merger and acquisition (M&A) structuring and taxation from a multi-jurisdictional perspective, focusing on Europe, the United Kingdom and the United States. The issues discussed included: the treatment of tax receivables and benefits, and how to deal with handling the liabilities that may arise; the use of deferred tax assets; tax risk insurance and indemnities; and acquisition structures.

Tax receivables and benefits

The first topic for discussion was how to achieve a deal between a seller and buyer through monetisation or compensation for tax receivables and benefits. This can occur, for instance, in the context of a private equity transaction where the purchase price in the purchase agreement is reduced by some cost or expense, or where there is an asset in the company such as a VAT receivable. Jodi Schwartz invited the speakers to comment on how parties manage potential liabilities and the future tax assets when negotiating purchase agreements. Do parties tend to adopt a ‘seller-friendly’, ‘buyer-friendly’ or ‘clean-cut’ approach?

The UK

Michael Lane stated that the UK's approach is a hybrid of the ‘buyer-friendly’ or ‘seller-friendly’ approach. Generally, under English law parties would have a share purchase agreement (SPA) and a tax covenant or deed. Most tax deeds would state that, if the receivable is recognised in the accounts that have been used in pricing the deal, then it will be deemed to have been effectively bought by the buyer and there is a pound-for-pound indemnity in the event that the receivable is not realised. On the other hand, if the refund or repayment is made, and was not factored into the pricing or paid into the completion account, the buyer is required to pay back on a pound-for-pound basis, net of cost of recovery.


In Switzerland, parties tend to adopt either a seller-friendly or buyer-friendly approach. Reto Heuberger explained that the question as to whether or not a receivable has been included in the purchase price is usually a subject of debate when parties are negotiating. If the receivable is not included in the purchase price there will be a dollar-for-dollar refund. The challenge for the seller is that often the seller is not aware that the buyer gets the receivable and usually there is no incentive for the buyer to do so. It is therefore useful to have a ‘reasonable effort’ language in the SPA to encourage the buyer to recover the receivable, as well as some monitoring language to ensure that the buyer pays the receivable to the seller.

The US

Schwartz indicated that, to avoid complex contractual entanglements, parties tend to prefer the clean-cut approach with a purchase price adjustment clause upfront. The clean-cut approach requires a good deal of knowledge and presents the risk of changes in tax laws and market trends. Often, sellers do not want to be involved in the buyer’s attempt to recover tax assets after the deal closes.

Deferred tax assets/tax benefits

The panel discussed the monetisation of deferred tax assets (DTAs) in M&A transactions. Schwartz referred to tax receivable agreements as a ‘classic example, commonly used in transactions across jurisdictions,’ and talked about the valuation of tax receivable agreements and the sharing of tax benefits in the context of an IPO. She mentioned that this was recently the subject of an article published by the Financial Times, which Lane had brought to the attention of the panel, and asked him to comment.

The UK

Lane stated that there is a standard approach to valuing a receivable in the UK market. When a receivable is paid, the buyer could either keep it, having paid for it as part of the purchase price, or pay it to the seller. Where the tax asset is a loss or other relief, there are a host of different issues that often arise, such as the time value of money and other issues around usage. In such circumstances, there tends to be more negotiation between parties. Very occasionally, the seller is able to extract more on the purchase price but, by and large, unless you agree to a pricing adjustment upfront it is hard to adjust pricing later on. Therefore, parties tend to rely on tax indemnity provisions that state that if the buyer has not paid for the relief then it is notionally the seller’s relief.

If tax arises that the buyer could otherwise claim from the seller, the seller can request that the buyer uses the relief to offset the tax first. If the buyer has used the relief and makes a claim against the seller, the seller can request for payment for the relief. What does not typically happen in the UK market is where the seller and buyer agree to share the windfall from a relief, such as a tax refund.

The US

Schwartz stated that tax receivable agreements are extremely complicated and they involve a lot of trust. There is also the risk of changes in the law. She said this usually comes up regularly in US private equity deals in the context of compensation or deal cost that offset the purchase price – for example, where a buyer seeks to reduce the purchase price by the deal cost and the seller wants the buyer to increase the purchase price by the tax benefits that the buyer gets from the deal cost. Parties then have to agree on whether the value should be as at when the benefit is realised or whether it should be valued upfront.

These issues can be further complicated when there is subsequently a change in the law, as happened recently in the US in relation to loss relief. Corporate tax rate was also reduced significantly, thereby affecting the value of tax relief agreements that were negotiated prior to those changes. The uncertainties around valuation of tax relief agreements are part of why the clean-cut approach is unpopular.


Heuberger commented that the same factors are relevant in the Swiss market. An additional factor is that Switzerland has a seven-year tax carry-forward rule that makes it impossible for a company to claim loss relief after a period of seven years. He gave the example of a deal that involved two banks that were bidding for 12 small private Swiss banks, with a huge loss carry-forward. One bidder was a Swiss bank and the other was a foreign bank. The Swiss bidder was only interested in the targets with the largest tax assets, whereas the other bidder was not willing to offer any money for the tax assets because it could never use them, instead wanting to pay only for the target banks’ licences. The Swiss bidder, on the other hand, was willing to pay an additional amount for the DTA and consequently emerged as the successful bidder.


Riccardo Michelutti provided some insight into the Italian approach to some of the issues discussed earlier.

Commenting on the determination of the purchase price in share deals, he stated that usually tax receivables can be seen in the accounts and can therefore be factored into the sale price, whereas DTAs are not visible and you may not have the ability to make use of them within the relevant time frame. Under Italian law, there are provisions that allow you to convert DTAs into tax credits and monetise DTAs based on the fulfillment of certain requirements. Under a new rule, which is not restricted to only the banking sector, if a merger, demerger or contribution of business resolved in 2021 occurs between unrelated companies which have carried out business activities for at least two years, eligible DTAs, even if not accounted for in the financial statement, might be turned into tax credits up to a cap of two per cent of the lower of the aggregated gross asset value of the two businesses that are combining together.

A one-off charge of 25 per cent of the value of the DTA will be paid as a one-off fee for converting the DTA into a tax credit. The one-off charge is tax deductible for income tax purposes. Once the tax credit has been originated, it can be used to offset future tax liabilities without a cap. DTAs can also be sold within the group or to unrelated third parties.

Tax risk insurance and tax indemnities

The panel also considered the use of tax insurance such as warranty insurance. This is common in private equity deals and is increasingly becoming a big factor even in public deals, where an insurer, rather than the seller, stands behind the truth of the representations and warranties in a private transaction. Schwartz indicated that one of the most bourgeoning aspects of the market of tax insurance seems to be around uncertain tax positions, and the ability to access the insurance market where the buyer and the seller cannot agree on a tax risk or cannot properly price a tax risk. Schwartz asked Markez to share her experience from an insurance adviser’s perspective.

The use of tax insurance

According to Markez, the market is increasingly seeing the use of tax insurance, particularly in European transactions. In the past, tax insurance was very much limited to tax warranty and tax indemnity underwriting but increasingly tax insurance is being used for the insurance of specific tax risks based on transactions. Tax insurance is a viable tool both on the buyer’s side and the seller’s side to allocate risk, to mitigate financial exposure and to avoid price reductions or requests for escrow arrangements.

Schwartz commented on how the difference in pricing across different jurisdictions within the European market is illustrative of the way that the tax underwriting community is viewing tax risk in different countries and how premium price ranges vary as new developments emerge. For example, in 2020, premiums were being priced at three to five per cent and five to eight per cent in Belgium, France and Italy. Pricing is reflective of the level of risk from the underwriter’s perspective.

Commenting on the formalities of accessing the tax insurance market, Schwartz indicated that, in the US, parties can generally get tax insurance if they have ‘should’ level comfort from counsel, and asked Markez whether it is the same in Europe. Markez stated that in Europe, it is necessary to get a ‘should’ level opinion for review by the underwriter’s counsel.

The UK

Lane noted that the scope covered in the due diligence can affect a party’s ability to get tax indemnity and warranty insurance. For example, if a buyer is acquiring a group and the scope of the due diligence does not cover certain jurisdictions, the insurance will not cover those jurisdictions either. It therefore becomes necessary to ensure that a tax indemnity and warranty insurance covers the entire scope of the transaction. Schwartz indicated that the same is the experience in the US, and that not only will the insurers not cover what is not within the scope of the due diligence, but they also will not cover anything found in the due diligence. For example, if the due diligence highlights a permanent establishment risk in a certain jurisdiction, then the insurance will not cover that risk. The issue then becomes whether counsel is comfortable enough with that, or whether they can underwrite it if the risk is a big enough exposure.

Within this context, Markez talked about the growing use of package-stapled vendor due diligence insurance products in Europe. Schwartz commented about the common use of stapled warranty and indemnity insurance in the US, and the difficulty of getting a true pre-close or post-close clean indemnity out of tax insurance (which entails complex drafting). This led into discussions about the tax consequences of insurance payments and whether they should be treated as income or as a purchase price adjustment.

Tax treatment of insurance payments


Heuberger noted that there is no standard practice regarding the treatment of insurance payments and the outcome depends on the facts and circumstances of the particular case.

He gave an example of a case where the question arose as to whether the payment from tax insurance should be treated as income or as a purchase price adjustment, and whether a tax indemnity payment between a seller and a buyer should be treated differently, being a payment for damages. The tax commissioner argued that every payment from insurance is payment for damages and therefore must be treated as income and not as a purchase price adjustment.

In another case involving a tax indemnity payment, the buyer’s accountant instructed the payment directly to the target because he was of the opinion he could do so under the agreement. The advisers on the seller’s side had treated it as a purchase price adjustment and wanted the buyer to do the same. By paying to the target, there was a risk that the payment would be treated as taxable income in the hands of the target and the seller would have to indemnify for those taxes. To mitigate this risk, the seller’s advisers had to write a side letter to state that the buyer will treat the payment as a purchase price adjustment.

The US

Schwartz noted that it is clear that a payment made between the parties to an agreement would be deemed as a purchase price adjustment, but it becomes uncertain once an insurer is involved. There is often a gross-up provision built into the representation and warranties insurance (and tax insurance generally) but there are no guarantees.

Schwartz gave an example of a spin-off that had indemnified its former parent for possible losses that may be suffered in the event that a merger by the parent affected the nature of the spin-off. Due to the uncertainties that surrounded the merger, the buyer got a ‘should’ opinion and got tax insurance at a premium of less than three per cent as well as a huge indemnity. There was some certainty that the insurance payment would be taxable but there was a risk that when the spin-off pays the parent, tax would also be payable because the payment cannot qualify as a purchase price adjustment. A double grossing-up was made in the agreement, which resulted in the buyer’s inability to insure the entire risk because it had exceeded the usual scope that the insurers would cover.

There is still much uncertainty as to whether insurance risk payments are the same as indemnities. It has been suggested that, if the seller provides the insurance rather than the buyer, the payment made by the seller for the insurance is a purchase price adjustment. Another question, however, is whether it makes a difference if the buyer receives the insurance payment or the target does.

Indemnity payments in general


Michelutti addressed the subject of indemnity payments in Italy. He mentioned a landmark decision of the Italian Supreme Court in August 2020, which established that tax indemnity payments do not qualify as price adjustments even when they are accounted for as such. In that case, the tax indemnity between the seller and buyer was treated in the SPA as a price adjustment. The indemnity covered contingent tax liabilities at the target level and, even though the indemnity was meant to go to the buyer and not to the target, the target was subsequently merged into the buyer. The indemnity was paid and the buyer, applying International Financial Reporting Standards (IFRS) accounting standards, offset the indemnity vis á vis the tax liability and claimed that there were no taxable profits.

The Italian Supreme Court completely disregarded the accounting treatment and ruled that, since the payment – even if provided for by the SPA – stemmed from a specific clause having an insurance nature. As such, it should be considered taxable in the hands of the buyer. The Court also ruled that the fact that the payment came from the seller and not a third party – such as an insurance company – cannot change the tax treatment. The Court further ruled that, instead of following the accounts, the language in the SPA is not binding on tax authorities. Consequently, the indemnity payment is treated as a taxable item of income in the hands of the buyer, even if flowing from the seller to the buyer.

Michelutti discussed other potential risks arising from the Court's decision and commented on the use of gross-up clauses in mitigating some of those risks.

The use of tax insurance to manage withholding tax risks

Taking the discussions further, Schwartz commented on the use of tax insurance to manage other risks other than those that typically arise between a buyer and a seller.

Markez gave an example of where the proceeds from a sale of assets or shares are to be distributed from a particular jurisdiction to a holding platform in another jurisdiction in Europe and, due to the absence of treaty relief, there is a risk of dividend withholding tax exposure. In markets that have relatively uncertain tax regimes, access to underwriting will depend on the risk profile of the transaction, which will be determined by the facts and substance around the holding platform – such as the issue of beneficial ownership and principal purpose – and a ‘should’ level opinion will also be required.

Acquisition structures in high withholding tax jurisdictions

The panel considered acquisition structures in three scenarios.

Scenario 1: US multinational entity acquires Swiss target

Switzerland has a withholding tax rate of 35 per cent, and base erosion and profit shifting (BEPS) has introduced some changes. Under the US–Swiss treaty there is a five per cent residual withholding tax, whereas it is zero per cent with respect to all European jurisdictions.

It is standard for the US company to incorporate an acquisition company in a European jurisdiction such as Luxemburg or the Netherlands and then invest in the Swiss target, but an issue arises as to whether or not it is abusive. Switzerland applies the general anti-abuse rule (GAAR) to all its double taxation treaties; where the tax authority concludes that it is abusive to the extent that the US entity is better off than if it had purchased the target itself, the tax authority would grant the five per cent but will deny the application of the Lux-Swiss treaty and the zero per cent withholding tax rate.

If the Swiss target, rather than applying the Lux-Swiss treaty which would trigger the GAAR, instead applies the bilateral agreement between Switzerland and the EU, then the EU court ruling in the Danish cases (which deal with the issue of beneficial owner) would apply as well as the 35 per cent withholding tax rate.

Under the Swiss GAAR, there has to be:

  • financial substance which is 30 per cent equity;
  • functional substance (which is a holding function); or
  • personal substance.

For a US multinational, financial substance is enough. In some cases, personal substance (having people on the ground) is needed. In cases where there is an investment fund, the question will be where the investment management takes its decisions: essentially, where the managers are located. Heuberger gave an example of a situation where the managers of a fund were situated in the UK and the fund wanted to set up a holding company in the UK, but strangely there was some reluctance on the part of the UK advisers.

Scenario 2: investment fund with fund management in the UK

The UK has a territorial tax regime and good treaty network, and is therefore still a favourable holding company location post-Brexit.

The tax regime includes:

  • a dividend exemption for foreign and domestic dividends;
  • participation exemptions for capital gains on shareholding on the way out;
  • the ability to bring in debt using the treaty network or through Eurobonds; and
  • the ability to manage stamp duty through non-UK incorporation.

Referring to the example by Heuberger, Lane indicated that the reluctance on the part of the advisers may well be to do with the structure of the fund itself and how the managers respond to the tax issues that may arise, rather than on the holding company per se. Although the location of fund managers in a different jurisdiction has been affected in recent times by the Covid-19 restrictions, in a case where the fund has a track record of being managed in the right jurisdiction, then the fact that the managers are located outside the jurisdiction of the fund can be overlooked when an existing structure is involved. Where a new structure is being set up and the decisions are made in the wrong place, then it will be very difficult to prove residency for tax purposes.

Scenario 3: treaty-protected fund investors

In Italy, there has been a positive development regarding investment funds.

A new law, introduced in December 2020, states that dividends from Italian companies flowing to investment funds established in the EU are free from withholding tax in Italy. The same treatment (ie, no taxation in Italy) applies on capital gains realised by EU investment funds from the sale of shares in Italian companies. This was introduced to prevent discrimination issues, as opposed to the tax treatment applicable in respect of Italian investment funds. Thus, there is less tension about having substance in the intermediate vehicle – provided that the fund at the top of the structure is an EU-regulated fund.

The new law begs two questions. Firstly, whether the same treatment, irrespective of the law, will apply to non-EU funds to ensure the free movement of capital. Secondly, whether the rule should be applied retroactively, since it is based on an existing EU principle. The latter is likely to become a ground for refund requests in the near future.