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More Facts Resolve Tax Risks

Thursday, 16 January 2014   (0 Comments)
Posted by: Author: Daniel Erasmus
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Author: Daniel Erasmus 

Where Does Transactional Tax Risk Come From?

Transactional tax risk entails assessing the tax risks associated with the various steps taken in major transactions by businesses. Some of the most obvious tax risks are the tax antiavoidance provisions in tax legislation, "connected persons,” controlled foreign entity legislation, transfer pricing, and simulated transactions. But there are many more. The more unusual the transaction, the greater the tax risk. Typical transactions that require the facts to be carefully collected and subjected to a legal and tax audit include acquisitions, mergers, demergers, management buyouts, and structured finance deals. Often much effort goes into planning a transaction, but then there is lack of attention to detail in the implementation of the transaction, and double-checking the implementation after the transaction is concluded. Usually the transaction is dealt with properly from an accounting perspective. But then little is done by way of a closing legal audit and compiling a collection of relevant documents, archived properly, with opinions at the ready to respond to any queries by the IRS. The legal audit ensures compliance with the original planned structure, supported by the various opinions

Typically tax risks can result from transactions in some of the following instances:

• The IRS successfully challenges the technical basis of the tax treatment of the transaction. Such a challenge can be averted by holding unqualified and positive opinions from leading tax specialists, where the taxpayer has also made certain that the implementation of the transaction ties up with the opinion or advice given.

• The analysis of a step in the transaction is dependent on an accounting treatment that is not accepted by the IRS. This challenge can also be averted with opinions.

• A change in the tax laws affects the transaction before it matures. To overcome this tax risk, the transaction must be revisited every year. 

 • The tax treatment adopted and arguments used to support one transaction are inconsistent or prejudice arguments in another counter or similar transaction. Once again, the overall effect of the steps in a transaction, and its tax effect in counter or similar transactions , must be considered at the time of planning. If this is not done properly, multiple transactions may fail as a result of a single technical failure, giving rise to significant tax risk in the transaction.

• If the transaction is not implemented as planned, it will result in the failure to meet a question of fact. If that key fact does not exist, as an assumption in the opinion supporting the transaction, the transaction may fail, resulting in the tax consequences originally feared.

• The transaction not being properly recorded for tax on an ongoing basis, resulting in misrepresentation or nondisclosure to the IRS, which may cause additional tax risk.

• The transaction prejudices the relationship with the IRS, and publicity adversely affects the reputation of the business with the IRS. Many analysts place a high premium on the tax reputation of a business when assessing it for business.

• Can explanations be given for the tax planning being implemented with a transaction? Will this attract the attention of the IRS when compared to the IRS’s perceived high tax risk areas?

• Is the taxpayer confident that the advice that has been given on the tax issues is objective and soundly based?

• Are there any tax skeletons in newly acquired entities? Has an appropriate tax due diligence been done?

• Are the tax outcomes in line with the business outcomes?

• Have transactions been properly valued and adequately recorded?

• If the transaction implemented is complicated, is this because the business issues are complex as well?

• Are additional steps designed to reduce taxes that would ordinarily be payable?

The starting point in answering all these questions, and getting to grips with the level of tax risk, is to carefully analyze all facts surrounding the transaction.

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