Exit and Growth Strategies for Middle Market Businesses

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The Leveraged ESOP Rollover

By David DuWaldt | Jan 15, 2010

Although sales price and terms are important components of any stock sale transaction, the structure of such a transaction can have a major effect upon what the seller is left with after taxes are paid on the resulting capital gain.  In the case of a management buyout transaction, a structure worthy of consideration involves the use of a leveraged ESOP.

ESOP is an acronym for Employee Stock Ownership Plan, which is a special type of qualified employee benefit plan.  An ESOP is a defined contribution plan that can emulate either a money purchase pension plan or a profit sharing plan.  An ESOP is similar to a stock bonus plan except that, unlike a stock bonus plan, it can utilize the credit of the company, borrow funds from outside sources, and use the funds to purchase company stock from existing stockholders.  The fact that an ESOP can enter into this type of leveraged transaction is what makes it different from all other qualified employee benefit plans.  The act of borrowing funds through the credit of the company and buying company shares is considered a prohibited transaction for all other employee benefit plans under the Employee Retirement Income Security Act of 1974 (“ERISA”).

As with other employee benefit plans, the ESOP operates as a trust.  Therefore, an Employee Stock Ownership Trust (“ESOT”) is created and a designated trustee or trustees serve in a fiduciary capacity on behalf of the employee beneficiaries of the trust.  The trustee or trustees for the ESOT are appointed by the company’s board of directors. Read more »

Defer Taxes with the Type A Reorganization

By David DuWaldt | Apr 24, 2009

When stock consideration is involved in a merger or acquisition, the type A reorganization is a popular way to structure the transaction for income tax planning and compliance purposes.  Relative to the other reorganization choices described in the Internal Revenue Code, the type A provides flexibility that is not found in the other types of reorganizations.  The principal benefit of having a transaction meet the requirements of a type A reorganization is the deferral of income taxes.  If the transaction is properly structured, to the extent that stock of the acquiring company is received, there is a deferral of income taxes (i.e., cash or other “boot” received will be subject to tax).  Just like the other exchange provisions of the Internal Revenue Code, there is a tax basis being carried over to the stock received.

Under section 368(a)(1)(A), the Internal Revenue Code defines a type A reorganization as a “statutory merger or consolidation.”  Besides meeting the definition of a statutory merger or consolidation, there is a continuity of interest requirement.  As provided by the treasury regulations, this requirement will be met if at least 50% of the consideration received is stock (under case law, 40% stock consideration will meet this requirement). Read more »

Why Business Plans Get Rejected

By David DuWaldt | Dec 20, 2008

With all the news about the difficulties the Big Three auto executives had in securing financing from the U.S. government, it is good to know that middle-market business owners do not need an Act of Congress to get funded. However, you can be assured if you are looking for financing in today’s market — every aspect of your business will be examined in detail, including your business plan.

Even with a great product or service and a long list of customers your business may not receive the desired funding. Prospective investors receive so many business plans each year that weeding through them with only a cursory review has become a standard practice.  In order to ensure your business plan gets read by investors, it will need to stand out. From the investor’s point of view, some of the more common problems with a business plan include the following:

Unrealistic Claims About Competition or Risk

Everyone has competitors, so to claim that you have no competition will almost certainly cause investors to conclude that you do not have a firm grasp of the market. The “Competition” section of your business plan is your opportunity Read more »

The Carried Interest Controversy

By David DuWaldt | Nov 12, 2008

It was just last year that the Senate Finance Committee conducted a few hearings about the controversial tax treatment of “carried interest.”  The website,, provides us with the following definition for the term, carried interest:

“A share of any profits that the general partners of private equity and hedge funds receive as compensation, despite not contributing any initial funds.  This method of compensation seeks to motivate the general partner (fund manager) to work toward improving the fund’s performance.”

Given the recent election results and ongoing debate about executive compensation in the midst of the current financial crisis, it should not be a surprise that the tax treatment of income associated with carried interests could be changed as early as 2009.

Under current federal tax law, the character of the income to the carried interest is the same as the income earned by the fund.  Therefore, if most of the profits of the fund consist of Read more »

Good News for the Medical Device Industry

By David DuWaldt | Oct 22, 2008

On February 20, 2008, the United States Supreme Court issued a momentous decision in Riegel v. Medtronic.  This decision represents a major victory for the medical device industry since it provided that medical devices, which are approved under the Food and Drug Administration’s pre-market approval (PMA) process, cannot be subject to a products liability or other personal injury claim under state law.

The Riegel case was decided based on certain language contained within the Medical Device Amendments of 1976 (MDA), which preempt state law claims for damages when a medical device has undergone the PMA process.  While this case does provide relief to manufacturers with respect to those medical devices that did receive pre-market approval from the Food and Drug Administration, it is important to note that medical devices which only meet the “section 510(k) process” (a section of the MDA describing the review process) do not get relief from state law injury claims.  This particular issue has already been decided by the U. S. Supreme Court in the 1996 case of Medtronic v. Lohr, and therefore, distinguishes Lohr from the Riegel case.

So what economic effect might the Riegel case have on medical device manufacturers?  Like so many other questions, this will depend on several factors, including the type of medical devices being manufactured and sold. Read more »

Rollover Gain with No Pain

By David DuWaldt | Jul 15, 2008

Many taxpayers have heard about or even utilized the 60-day Individual Retirement Account rollover rule at one time or another. Did you know there is a 60-day rollover rule in connection with the sale of qualified small business stock (“QSB stock”)?   Essentially, within a 60-day period and if other requirements are met (e.g., the stock was held for at least 6 months), the taxpayer can purchase other QSB stock in order to defer all or part of the gain associated with a QSB stock sale.

In 1997, as part of the Taxpayer Relief Act of 1997, a new section 1045 was added to the Internal Revenue Code that provides for the rollover of gain from the sale of QSB stock. In the following year, the IRS Restructuring and Reform Act of 1998 provided some amendments to section 1045 including the expansion of the gain rollover treatment to additional taxpayers, other than corporations.

Read more »