Purchase Price Allocations: Tax and Contractual Aspects

• Published in: The Tax lawyer Vol. 78; no. 3; pp. 317 - 359
• Main Authors: Soled, Jay A, Goodman, Leonard, Kornstein, Alan, Gallagher, Daniela C
• Format: Journal Article
• Language: English
• Published: Washington American Bar Association 01.04.2025
• Subjects: Acquisitions & mergers; Agreements; Asset acquisitions; Capital losses; Disregarded entities; Equity; Equity stake; Income taxes; Partnership interest; Provisions; Reporting requirements; Tax rates
• ISSN: 0040-005X; 2329-6089

It is commonly understood among tax practitioners that, even though not required by the Code, an agreement for the purchase and sale of business assets ideally should allocate the purchase price to the different categories of assets being conveyed or, alternatively, provide a methodology that achieves the same objective. This practice has been driven by the well-settled principle that a trade or business is comprised of multiple assets or categories of assets, each of which gives rise to separate tax determinations, and not a single, unified business as a whole. Notwithstanding this common practice, contractual purchase price allocations are not binding on the Service, albeit they generally are binding on the parties themselves-even if those allocations do not comply with applicable provisions of the tax law. To make matters more complicated, buyers and sellers do not always agree on the substantive approach to the allocations or the corresponding contractual provisions by which those allocations would be determined. To the contrary, the parties frequently have adverse tax interests that make it difficult to reach an accord, occasionally causing the parties to leave the contract silent. Consider the fact, too, that contractual provisions originally motivated by a desire to minimize the risk of a Service challenge could have ancillary consequences beyond the scope of the Code, increasing the burden on counsel to avoid any unanticipated legal traps. Although practitioners commonly associate purchase price allocations with Code section 1060, their implications are far broader. By way of example, they are potentially relevant to "hybrid" deal structures in which the income tax treatment of a taxpayer's purchase or sale of an equity interest in a flowthrough entity-including partnership interests, membership interests in an LLC treated as a disregarded entity, or S corporation stock subject to a section 338(h)(10) election-will depend on the manner in which the deal consideration is allocable among the entity's assets. Furthermore, whether or not Code section 1060 applies to a particular purchase and sale transaction, the Code contains a plethora of reporting requirements relating to the foregoing transactions that reinforce the need to proceed cautiously. In sum, this Article explores the broad tax and non-tax technical and practical aspects of purchase price allocations. Its readers will grasp that, when it comes to contractual negotiations and tax burden determinations, such allocations are of critical importance.