Selling Your Business in a 338(h)(10) Transaction? - Don't Forget Your Gross-Up

Construction|Real Estate|Tax

By Kyle Hazen

Have you been approached to sell your business in a “338(h)(10) transaction”?  If so, it’s important to understand how this may impact your net proceeds from the sale. 

What is a 338(h)(10) Transaction?

The IRC Section 338(h)(10) election, made bilaterally between the purchaser and seller, generally allows a stock purchase to be treated as an asset purchase for federal (and some state) income tax purposes.  It allows the buyer to step into the shoes of the seller for purposes of licenses, patents, permits, trademarks, etc. and carry on the name of the seller corporation as if the purchase was made as a traditional stock sale.  It also gives the buyer the benefit of a “stepped up” basis in the assets purchased as if the purchase was a traditional asset purchase.   

As a result of the IRC Section 338(h)(10) transaction being treated as an asset sale for federal (and some state) tax purposes, the seller will often be required to pay some portion of the tax on the sale at higher tax rates (e.g., IRC Section 1245 and 1250 recapture rates) rather than the capital gain tax rate.  

A calculation will be necessary to determine the actual net after tax differences between the stock sale and an asset sale.  Differences generally arise from assets such as inventory, real and personal property, and other ordinary income property (e.g., accounts receivable). 

The objective of the analysis is to put the seller in a non-detrimental cash position as a  result of participating in an IRC Section 338(h)(10) transaction.

Contact us if you have questions about or are considering a 338(h)(10) transaction and visit the Our Thoughts On blog, recognized by WalletHub as one of 2015's top tax blogs.

Material discussed is meant for informational purposes only, and it is not to be construed as investment, tax, or legal advice. Please note that individual situations can vary. Therefore, this information should be relied upon when coordinated with individual professional advice.

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