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Deducting severance payments.

In two technical advice memoranda (TAMs), the Internal Revenue Service ruled that an acquiring company can deduct (on a current basis) post-acquisition severance payments made to the acquired company's employees.

In TAM 9721002, a buyer, which had purchased a target's stock in a transaction it had elected to treat as an asset acquisition, terminated employees whose severance rights had been established in preacquisition plans. The IRS concluded the liability for severance payments had arisen after the acquisition because the buyer had been free to decide after the acquisition whether to terminate the employees. Thus, the severance payments were not a preacquisition liability assumed by the buyer and did not have to be treated as part of the purchase price or the basis. The IPS also concluded the severance payments did not have to be capitalized because they were "coincidental" and originated in the termination of the target company's employees.

In TAM 9731001, the acquiring company had agreed as part of a stock acquisition to make severance payments in excess of those required under the acquired company's premerger plan. The IRS determined the negotiated increase in the severance payments was "coincidental to the acquisition" and motivated by the taxpayer's desire to integrate the merged business operations. The payments were deductible because they related to postacquisition employment activity.

Observation: In revenue ruling 94-77 (1994-2 CB 19), the IRS reassured taxpayers that the tax treatment of severance payments remained deductible, for the most part, on a current basis, a position that was not changed by the decision in Indopco Inc. v. Commissioner (503 U.S. 79, 1992). However, 94-77 did not address the federal tax treatment of severance payments made as part of the acquisition of property, including a deemed acquisition of assets.

These TAMs are important because they clarify that severance payments made after an acquisition are deductible even when the acquisition was the catalyst for the payments or the payments were coincidental to the acquisition.

Tracy Hollingsworth, Esq., staff director of tax councils at Manufacturers Alliance, Arlington, Virginia.
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Article Details
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Publication:Journal of Accountancy
Article Type:Brief Article
Date:Nov 1, 1997
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