A tax-free merger is when a company purchases another company through a stock transaction, with no money involved. A tax-free merger is also the reorganization of an existing company to change the company's management structure.

Buyer and Seller

The buying company under a tax-free merger is larger than the selling company. The buying company has more money and property when purchasing the selling company.

Ownership Effect

When a company purchases another company during a tax-free merger, the selling company receives at least 40 percent of the new stock. The percentage of stock the selling company receives is negotiated during the tax-free merger. The selling company still has stock ownership in the newly defined company, but the buying company makes the decisions about how the new company will operate.

Considerations

A company that has taken part in a tax-free merger cannot sell its stock for at least 2 years, in order for the stock to qualify as tax free. The selling company under a tax-free merger has no tax liability once the merger has taken place.

Reorganized Company

A company under reorganization due to a tax-free merger changes the company structure by increasing or decreasing the workforce, assigning new management titles, and offering new products or services.

Internal Revenue Service

The Internal Revenue Code (sections 354 through 368) outlines guidelines for merging companies to follow to in order to maintain the tax-free status of the merger or reorganization.

Benefits

Underperforming companies that go through the process of a tax-free merger don't have to worry about filing for bankruptcy or closing their business.

Source:

MIT.edu: Session 20 Tax Free Acquisitions

VercorAdvisor.com: Structuring Transactions Tax Free

NYSSCPA.org: Expansion of Merger and Consolidation Provisions

More Information:

gliq.com: RSM McGladrey

CNet.com: AOL to Buy Time Warner in Historic Merger