Why have a tax covenant?

The following Tax practice note provides comprehensive and up to date legal information covering:

  • Why have a tax covenant?
  • What is a tax covenant?
  • Parties to the covenant
  • Contractual promise
  • Use of a tax covenant in practice
  • Form of the tax covenant
  • How target's shares are valued determines allocation of target's tax liabilities
  • Allocation of tax liabilities
  • Concessionary UK tax treatment—post-completion price adjustment
  • Gross up clause
  • More...

Why have a tax covenant?

It is market practice for a tax covenant, also known as a tax deed, to form part of the transaction documents in respect of a sale of all the shares in a company (the target company) that is:

  1. a private company incorporated in the UK, or

  2. a non-UK incorporated private company where there is a UK connection (ie, where the buyer is UK tax resident or the share purchase agreement (SPA) is to be governed by English law)

This Practice Note explains:

  1. what a tax covenant is

  2. what it does—broadly, it allocates responsibility between a seller and a buyer for the tax liabilities of a target company or group by reference to a specified date, and

  3. how payments made under it are treated for UK tax purposes

What is a tax covenant?

Parties to the covenant

A tax covenant is an agreement that is made between the seller and the buyer, and not between the seller and the target company.

Contractual promise

A tax covenant is a contractual promise by the seller to pay to the buyer an amount equal to any tax liability of the target company or group covered by the tax covenant. It is not a promise to pay the tax itself. Instead, it is a mechanism for shifting onto the seller the cost of such tax in accordance with the allocation made

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