So, your company’s going through a cash acquisition, and you’re scared of the tax implications?
And now you’ve got to figure out how to make the most of this acquisition… and how to not totally go under from the tax implications of it.
We spend a lot of time talking about how to prepare for IPOs on this blog, but all cash acquisitions are very, very different.
For one thing, they’re pretty much a one-time deal & it’s done.
The acquiring company buys out all of your shares in one go, and that’s that. (Versus in an IPO when you might have one big initial cash-out, but your shares keep vesting over time and you have options to buy stocks & cash out more in the future.)
In a cash acquisition, everything gets sold: your options, your RSU, and your shares. They’ll all be cashed out… and you’re pretty much getting paid a lot of money whether you like it or not. You don’t have much choice in the matter.
Your taxes will be affected, and if you haven’t gone through an IPO or an acquisition before, it could be the biggest tax bill you’ve ever seen in your life. ????
Here’s how to prepare for cash acquisition tax implications in three easy steps.
One: Prepare for The Most Epic Tax Bill of Your Life – The Tax Implications of an All Cash Acquisition
Like I said, you’re getting paid whether you like it or not. And any time you get paid, the IRS gets their share… which means there’s a lot of fun tax math ahead of you. (Or your accountant.)
In an IPO, you can usually forecast and plan out some different moves over time to lower your tax bill. This isn’t really an option during a cash acquisition, because it’s a one-time, all-cash deal.
You can, however, figure out the different types of shares you have and what percentages they’ll be taxed at.
Qualified Small Business Stock: The Lowest Tax Rate
If you have shares that you’ve held for more than five years, these may qualify for certain tax exclusions.
It’s something you have to be careful about, because you do actually have to claim these exclusions when you file your taxes. Otherwise, they’ll be taxed as long-term capital gains, and you’ll overpay on your taxes.
Long Term Capital Gains: A Lower Tax Rate Than Ordinary Income
If you’ve had shares for more than one year, they qualify for the long term capital gains tax rate, which is lower than regular income tax.
The important thing here isn’t just selling them as stocks that qualify for long term capital gains. Know your cost basis for these stocks so you only pay what you owe, and don’t accidentally overpay on them.
Knowing your cost basis on long term capital gains stock is particularly important if you exercised any ISO, and had to pay any Alternative Minimum Tax.
Ordinary Income + Short-Term Capital Gains: Standard Income Tax Rate
If you’ve had any shares for less than a year, these are considered short-term capital gains, and are taxed at the same rate as ordinary income.
This means the tax rate is higher, but that doesn’t necessarily mean you’re doomed to paying it all in full.
For example, if you exercised ISO the same year as the acquisition, the AMT gets wiped out, and taxes are based solely on the acquisition price. (And you don’t have to pay extra because of the AMT.)
This situation is similar to if your company was going through an IPO, the stock prices plummeted, and you decided to sell in the same year as exercising to eliminate the AMT.
Unexercised Stock Options & RSU = Ordinary Income: This is Where Cash Acquisition Tax Implications Really Bite You
If you’ve got stock options available that you haven’t exercised yet, the sale of those in an all-cash acquisition will be counted and taxed as ordinary income. This could bump you into a new tax bracket, so that’s something to keep in mind when putting aside money for your tax bill.
The (kind of) good news is, any NSO (nonqualified stock options) should have some mandatory income tax withholdings done by your company… though they may not be enough to cover your bill completely. But ISO (incentive stock options), may not have any withholdings done at all.
It’s important to know how much of each stock option you’ll be selling, what the withholding rate is, and how much extra you owe for each one.
Not to mention, an acquisition is usually one of those things that will trigger the release of any double-trigger RSU shares you’ve been vesting over time, so all of those will release. And when they do, you’ll be taxed for the number of shares you sell at the acquisition price… at the ordinary income rate. Yes, it’s a lot of money. But it’s better to be aware of the amount now than to be surprised at tax time.
Two: Figure Out Cash Acquisition Cash Flow Logistics
After you’ve figured out the math around your upcoming tax bill, you’ll want to plan the logistics of how this money flow will work.
How will the cash from the acquisition land in your bank account?
When will you get paid and have access to the money?
How does that line up with any estimated tax payments you need to make, or yearly tax filings?
Every scenario is different, but this is more or less what you can expect to happen:
When the acquisition begins, your money gets placed into a holding account.
Then, once the acquisition closes, the acquiring company will open a bank account for you and place the money there. From that point on, the cash is yours.
Remember, taxes are triggered by the acquisition actually closing, not by how soon you decide to touch the cash. So don’t be afraid to access the money as soon as it’s available.
What if the cash is in escrow?
A lot of times, acquiring companies use escrow accounts to transfer money, meaning that not all of the money gets released at once. They do this to protect themselves in case there are any unforeseen expenses with closing the deal.
If this is the case, it’s usually not a very big deal: You should have more than enough to cover your tax bill in the initial funds transfer, even if they do hold some back.
But if this is the case, make sure you know how much you can expect and when, so you can schedule estimated tax payments and other transfers to fund your different financial goals.
All of these details should be in the communication documents you receive from the acquiring company, so make sure to read them carefully.
Three: Update Your Financial Plan
The taxes may be a pain, but an all-cash acquisition is actually a really good thing for your financial goals.
With the money left over, most people use the cash to advance their financial lives forward in significant ways.
Project Your Cash Acquisition Tax Implications
First things first, obviously, you need to plan for that tax bill and get it out of the way.
Don’t just assume that any money you get out of the acquisition automatically has the taxes taken out like your normal paychecks do. Even if your company does do some withholding, chances are it won’t be enough, and you’ll still owe extra.
Using last year’s tax return, your most recent pay stub, and the details of how much you’ll get out of the acquisition, work with a tax professional to figure out how much you’ll owe, and whether or not you need to pay ahead with an estimated tax payment.
(As long as you pay in 110% of last year’s federal taxes, you’ll avoid a penalty, even if it does turn out that you’ll owe more later.)
Look for Ways to Lower Your Tax Implications
Once you’ve figured out how much you’ll owe, you can still find creative ways to lower your tax bill, even if you don’t have as much flexibility as with an IPO.
You could do this by maxing out your pre-tax 401(k), by increasing charitable giving, or other ways your financial advisor can figure out for your specific situation.
Finally: Put Your Money to Work!
Now’s the fun part!
After you’ve worked with a tax accountant to pay your estimated tax bill and set aside any additional money to pay taxes, you can use the rest of the cash to help you reach your financial wealth goals.
You’ll get to do exciting things like:
- Paying off debt
- Buying a house
- Making more investments
Your Cash Acquisition Tax Implication To-Dos:
So, to review:
As soon as you find out your company’s going through a cash acquisition, take these steps:
- Do the math & prepare for an epic tax bill
- Know how much money you’ll get & on what dates. Also how you’ll be able to access that money, and plan on doing so ASAP.
- Pay your taxes & use your money to reach your next big financial goal.
It’s a lot of work, but the help of an expert financial planner and tax preparer who specializes in helping people through company sales and acquisitions can be a BIG help.
To book a call with me or one of my associates, click here or use the button below. We’ll talk you through everything you need to know, and help you make the most efficient, profitable plan for your unique situation.
