Inversion deals come with capital gains tax headaches

Lately, we have been following the corporate maneuvers designed to reduce U.S. corporate tax burdens. Unlike the recent Kinder Morgan move that will only affect some investors, inversion deals will bring broader unwelcome tax surprises for legacy investors.

Medtronic’s acquisition of Covidien provides an example of how an inversion deal works. The U.S. company, Medtronic, will now adopt Ireland, Covidien’s domicile as its own. New replacements shares will issue as substitutes for the old Medtronic ones. This “forced sale and reissuance of shares” is a taxable event.

Those who have held large quantities of stock in Medtronic for many years will have to pay capital gains tax. Depending on income that could be 20 percent in Federal tax plus the 3.8 percent Medicare surtax on gains. In the rest of the post, we will provide some examples and strategies to minimize the tax hit.

For an investor who purchased 1,000 shares in the 1980s for $30 a share, the initial investment was $30,000. If that value increased over the years to $60 per share or $60,000, the investor would realize $30,000 in gains subject to the capital gains tax.

This could negatively affect retirees of a company who funded their retirement by purchasing company shares over the years. Paying capital gains tax in one year might mean selling shares to pay the tax, which would reduce dividend income. But it provides an example of why it is often beneficial to diversity investments.

One way to offset the tax on the gain would be to sell some stocks that have taken losses. Generally, a taxpayer can write off losses against gains. Another possibility is to give a portion of the stock to a charitable organization with the accompanying tax deduction. An experienced tax attorney can discuss possible options based on your individual circumstances.

Source: The Wall Street Journal, “Grappling with Inversion-Induced Tax Hits,” Daisy Maxey, August 21, 2014.