Problem 7-A Circle Inc. Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-2 Olson Inc. Buyer Assets – 21.5 mill Cash – 20 mill Liabilities – 1.5 mill Doug Basis 300k (a) Asset Sale-Liquidation Cash - $7.34 mill Circle Inc. Seller Sue Basis 7 Mill $5.32 mill taxes Cash - $7.34 mill $.068 mill taxes $1.408 mill taxes Net After-Tax Yield Sue - $7,272,000 Doug - $5,932,000

Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-3 Olson’s Purchase Price Allocations 197 Anti “Soft Dollar” Rule: All intangible assets amortized over 15 years – information bases, customer lists, patient files, know-how, licenses, franchises, trade names, goodwill, going-concern value, covenants not-to- compete Priority Asset Allocation Rules: Priority One: Cash or cash equivalents. Priority Two: Highly-liquid securities, foreign currencies and CDs. Priority Three: ARs, mortgages, credit card receivables. Priority Four: Inventory and dealer property Priority Five: Other tangible assets (equipment, real estate, etc.) Priority Six: Intangibles except goodwill and going concern value. Priority Seven: Goodwill and going concern value. Note: Parties can agree on values per agreement, but not change priorities.

Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-4 Potential Asset Sale Options Liquidate, Then Sell Assets: Corporate and shareholder tax on liquidation. Same after-tax net yield with more hassle due to double transfer of assets and liabilities. Cash Merger: Same tax consequences as sale-liquidation scenario. Automatic asset and liability transfers make transaction easier, but also transfers all rights and liabilities of a merger. Installment Sale: No deferral at corporate level, but tax deferral available to shareholders if plan of complete liquidation is adopted and assets sold and note distributed with 12 months following plan adoption. Asset Sale – Deferred Liquidation: Goal would be to defer shareholder gain until after Doug (age 81 now) dies and gets 1014 basis step- up before gain recognized. Corporation likely would be personal holding company in interim and would need to dividend income. Convert to S Status Before Sale: Conversion traps and “BIG” tax

Problem 7-A Circle Inc. Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-5 Olson Inc. Buyer Doug Basis 300k (b) Stock Sale for $18 million Cash - 9 mill Circle Inc. Seller Sue Basis 7 Mill $.4 mill taxes $1.740 mill taxes Net After-Tax Yield Sue - $8,600,000 Doug - $7,260,000 Stock Cash - 9 mill Stock

Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-6 Olson 338 Election? Concept: Buyer of 80% of more of stock of target corporation over 12 month period can elect to treat as asset purchase. Basis step-up, all new corp attributes, and corporate level tax triggered. Killer: Demise of general utility doctrine gutted any value of 338 election in most cases. Why take tax hit now to get future benefit of basis step-up? Two Survivors: 338 still works where: - Corp has big NOL can than shelter corporate level tax triggered on deemed asset sale. - Stock of sub is sold and gain on sub stock is less than gain on sub assets. Then, 338(h)(10) election, coupled with 332 and 337, may produce win-win – step-up with lower tax to parent corp. Bottom Line: Demise of General Utilities triggers double tax on nearly all asset sales and stock sales with 338 election. Hence, structure of choice often is straight stock sale with no 338 election.

Problem 7-A Circle Inc. Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-7 Olson Inc. Buyer Doug Basis 300k (c) Redemption - Stock Sale Combo Cash mill Circle Inc. Seller Sue Basis 7 Mill $.46 mill taxes$1.740 mill taxes Net After-Tax Yield Sue - $5,840,000 - $3 mill equip Doug - $7,260,000 70% Stock Cash mill 70% Stock Cash mill 30% Stock Equipment – 3 mill 30% Stock

Problem 7-A Circle Inc. Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-10 Olson Inc. Buyer Doug Basis 300k (d) Forward Triangular Merger Circle Inc. Seller Sue Basis 7 Mill Tax Impacts: No recognized gain or loss for any party Doug and Sue stock basis carryover to new stock New Sub gets assets carryover basis Taxable boot allowed up to 50% to 60% Buyer Stock New Sub. S New Sub Survives 100% Stock Token Assets Buyer Stock

Problem 7-A Circle Inc. Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-11 Olson Inc. Buyer Doug Basis 300k (e) Reverse Triangular Merger Circle Inc. Seller Sue Basis 7 Mill Tax Impacts: No recognized gain for any party Doug and Sue stock basis carryover to new stock New Sub gets assets carryover basis Taxable boot can’t exceed 20% Buyer Stock New Sub. S Seller Survives 100% Stock Token Assets Buyer Stock

Problem 7-A Circle Inc. Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-12 Olson Inc. Buyer Assets – 21.5 mill Cash – 20 mill Liabilities – 1.5 mill Doug Basis 3 Mill (f) S Corp Asset Sale-Liquidation Cash - $10 mill Circle Inc. Seller S Corp Sue Basis 8 Mill Zero taxes Cash - $10 mill $.55 mill taxes $1.55 mill taxes Net After-Tax Yield Sue - $9,450,000 Doug - $8,450,000

Copyright 2005 Dwight Drake. All Rights Reserved. Business Planning: Closely Held Enterprises www. drake-business-planning.com 7-13 Problem 7-A (f) – Tax Computations Doug Sue Corporate 1.5 mill ordinary income.75 mill.75 mill Corporate 11.8 mill capital gain 5.90 mill 5.90 mill Stock basis before gain adjustment 3.00 mill 8.00 mill Increase in basis for income from sale 6.65 mill 6.65 mill Tax Basis after income adjustment 9.65 mill mill Liquidation Proceeds mill mill Capital gain (loss) on liquidation.35 mill (4.65) mill Aggregate capital gain 6.25 mill 1.25 mill Tax on capital 20% 1.25 mill.25 mill Tax on ordinary 40%.30 mill.30 mill Total taxes 1.55 mill.55 mill