The Tax Cuts and Jobs Act of 2017 changed the required tax treatment of research and development expenses, creating new costs and tax liabilities for buyers when considering mergers and acquisitions. This is particularly relevant in certain industries such as life sciences, technology, and manufacturing/wholesale/distribution.
Depending on how a transaction is structured, buyers should consider a few factors when evaluating their target’s tax treatment of R&D under Section 174. They should assess activities that give rise to capitalizable costs, if accounting method changes have been made, and how the capitalization affects the target’s overall tax posture. The utilization of net operating losses (NOLs) and other tax attributes should also be scrutinized, and any pre-closing tax liabilities should be addressed in the purchase agreement. Potential opportunities or risks related to the R&D tax credit should be evaluated.
Ultimately, understanding the new Section 174 rules is essential to prevent costly surprises and preserve cash flows.
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