TaxJourney®

Federal legislation enacted on July 4, 2025, has expanded the gain exclusion available for sales of qualified small business stock (QSBS) under Section 1202. The revised law increases tax savings for shareholders in eligible domestic corporations, and government estimates show that taxpayer savings will rise by approximately $4.5 billion each year once all changes are in effect. This update marks the most significant change to Section 1202 since the exclusion was increased to 100% in 2010. The new provisions only apply to QSBS issued after July 4, 2025. Stock issued before this date remains governed by the previous rules.

Recent Amendments to Section 1202 Provisions

The recent legislation introduces three fundamental changes aimed at broadening the accessibility and enhancing the value of qualified small business stock (QSBS) under Section 1202:

• Revised Holding Period Requirements for Gain Exclusion: The rigid five-year requirement has been replaced with a phased exclusion system. Investors now receive 50% gain exclusion after three years, 75% after four years, and 100% after five years. This eliminates the previous cliff effect that created market distortions and provides immediate incentives for patient capital.
• Increased Maximum Exclusion Limit: Prior to recent legislative changes, Section 1202 provided a gain exclusion capped at the greater of $10 million or ten times the taxpayer’s adjusted stock basis. This $10 million minimum limit was established in 1993 and has remained fixed since then, without any inflation adjustments. The One Big Beautiful Bill Act (OBBBA) increases this exclusion floor to $15 million for stock issued after July 4, 2025. Additionally, it introduces annual inflation adjustments starting in 2026 to maintain the exclusion’s real value over time. As a result, eligible taxpayers, including individuals, estates, and trusts, can now exclude at least $15 million of taxable gains from QSBS sales. The provision’s multiplier factor of ten times the stock basis, however, remains unchanged under this update.
• Expanded Gross Asset Limits: Qualifying small businesses can now maintain up to $75 million in aggregate gross assets, up from $50 million. Combined with ongoing inflation adjustments, this expansion significantly increases the pool of eligible companies and extends qualification windows for growing enterprises.

These enhancements apply exclusively to stock issued after July 4, 2025, creating distinct treatment between existing holdings and new issuances.

Implications of OBBB Revisions on Investors and Corporations

The One Big Beautiful Bill Act (OBBBA) introduces important changes to Section 1202, increasing the tax advantages available to investors and the companies in which they invest through qualified small business stock (QSBS).

• Restored Eligibility for Corporations Under Revised Asset Thresholds: Corporations that once exceeded the previous $50 million gross asset limit but now fall below the updated $75 million cap may become eligible once again to issue qualified small business stock (QSBS). These companies should assess the potential impact of this change on their financing and exit strategies. Furthermore, investors who may not meet the newly introduced three to five year holding period requirement might still benefit, as increases in the 10-times basis exclusion can enhance the amount of tax-exempt gain associated with recently issued stock.
• Extended Qualification Periods for Corporations: Several OBBBA provisions tend to reduce the tax basis of corporate assets, which directly affects eligibility for QSBS issuance because the asset thresholds are measured on a tax basis. Key provisions include full bonus depreciation, expanded Section 179 deductions, the ability to expense certain qualified manufacturing real estate, and renewed deductibility for domestic research expenses. Together, these can prolong a corporation’s ability to meet QSBS requirements.
• Increased Accessibility for Later-Stage Investors: Previously, investors involved in later stage funding faced challenges in qualifying for QSBS gain exclusions due to the strict five year holding requirement and asset limitations. The new phased gain exclusion, permitting a 50% exclusion after three years, coupled with the increased gross asset ceiling of $75 million (subject to inflation adjustments), significantly reduces these barriers. This update supports companies that pursue multi-round growth strategies by providing more accessible tax incentives to a wider range of investors.
• Refreshing Previously Issued Stock Under New QSBS Rules: Under the updated regulations, stock issued previously generally cannot be reclassified to benefit from the revised Section 1202 rules if it originally qualified only under the older standards such as the $10 million gain exclusion cap and the five year holding period or if it did not qualify as QSBS at all. However, an exception may exist for corporations recently formed with initial assets exceeding the previous $50 million threshold. Such entities might consider a taxable liquidation followed by reincorporation to issue new stock that satisfies the updated QSBS qualifications. This approach is most effective when the business has experienced limited appreciation since its formation and requires careful structuring to ensure compliance and intended tax outcomes.
• Incorporating a Partnership to Access Section 1202 Benefits: Converting a partnership into a C corporation can offer considerable tax advantages under Section 1202. With the recent increase in the gross asset threshold to $75 million and the implementation of a shorter three year holding period, this conversion option becomes more appealing than before. These changes expand eligibility, allowing a greater number of partnerships to take advantage of the tax benefits available through qualified small business stock (QSBS).

Strategic Planning for S Corporations

Direct Conversion Limitations

Simply revoking S election provides minimal benefits since existing S corporation stock cannot qualify as QSBS retroactively. This approach only benefits future stock issuances, making it generally inadvisable without additional restructuring. Similarly, merging an S corporation into a C corporation fails to create QSBS treatment for exchanged stock. Federal court decisions confirm that stock for stock exchanges disqualify QSBS treatment under Section 1202(c)(1)(B).

Advanced Restructuring Solutions

• Asset Dropdown Strategy: S corporations can transfer operating assets to newly formed C corporation subsidiaries. The parent S corporation holds qualifying stock in the subsidiary, allowing QSBS gain exclusions to flow through to shareholders upon disposition. This approach preserves existing ownership structures while positioning future appreciation for QSBS treatment. Only post contribution appreciation qualifies for exclusion benefits.
• F Reorganization Alternative: Shareholders contribute S corporation stock to a new holding company, which elects qualified subchapter S subsidiary (QSUB) status for the original entity. After converting the QSUB to a disregarded LLC, the holding company contributes business assets to a new C corporation subsidiary. This structure offers two key advantages: no asset title transfers required and potential retention of the original employer identification number.
• Section 269 Compliance: Both strategies require careful analysis of anti-avoidance provisions. While Section 1202 represents deliberate congressional incentive, taxpayers must demonstrate legitimate business purposes beyond tax reduction.

Risk Management Considerations

• Step Transaction Doctrine: The F reorganization approach faces potential IRS challenge under liquidation reincorporation principles if transactions appear orchestrated solely for tax benefits.
• Divisive Merger Alternative: In jurisdictions with divisive merger statutes (Texas, Delaware), S corporations can split assets into separate entities through statutory merger, achieving similar results with reduced step-transaction risk.

Investment and Corporate Opportunities

• Later-Stage Investment Accessibility: The combination of reduced holding periods and expanded asset limits removes traditional barriers facing later round investors. Growth equity and private equity funds can now meaningfully incorporate QSBS benefits into investment strategies.
• Partnership Conversion Benefits: The expanded framework makes C corporation conversion increasingly attractive for partnerships and LLCs. The higher asset threshold accommodates larger enterprises while the three year holding period reduces timing pressures for partners.
• Requalification Potential: Companies that previously exceeded the $50 million asset threshold but remain below $75 million can issue fresh QSBS. This creates immediate planning opportunities for Growth-stage companies approaching traditional size limits, buy-and-build strategies seeking investor attraction and portfolio companies considering recapitalization events
• Stock Refresh Strategies: While existing stock generally cannot benefit from new rules, specific fact patterns may support taxable liquidation followed by reincorporation. This approach works best for recently formed companies with limited appreciation since original formation.

Implementation Best Practices

• Timing Considerations: All enhanced benefits apply only to stock issued after July 4, 2025. Existing stockholders should evaluate whether restructuring creates new qualifying issuances while managing potential tax consequences.
• Documentation Requirements: The graduated exclusion system creates tracking complexity across multiple stock tranches with different acquisition dates and applicable exclusion percentages. Robust documentation systems become essential for compliance and optimization.
• State Tax Coordination: QSBS benefits apply exclusively for federal purposes. State tax implications of restructuring and ongoing operations require separate analysis, particularly in high tax jurisdictions lacking federal conformity.

Actionable Planning Steps

Tax professionals should immediately assess client situations for QSBS optimization:

• Portfolio Assessment: Review existing investments for restructuring potential under expanded thresholds and reduced holding periods.
• Entity Analysis: Evaluate S corporations and partnerships for conversion opportunities, weighing QSBS benefits against other tax considerations including state implications.
• Investment Integration: Incorporate QSBS considerations into due diligence for new investments, particularly those approaching expanded asset thresholds.
• Systems Enhancement: Implement tracking capabilities for complex holding period and exclusion percentage requirements across multiple stock issuances.

Conclusion

The expanded QSBS framework creates generational wealth building opportunities through sophisticated tax planning. Success requires balancing immediate benefits with long term strategic objectives while maintaining strict regulatory compliance.

Professional advisors who master these provisions will deliver substantial client value while positioning practices at the forefront of advanced tax planning in the evolving regulatory landscape.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

The federal government shutdown, initiated on October 1, 2025, resulted from a legislative impasse in Congress over the approval of budget appropriations for the 2026 fiscal year. Despite extensive negotiations, Congress was unable to enact the necessary funding legislation to maintain full government operations. Adding complexity to this deadlock is the executive branch’s selective withholding of funds previously authorized by Congress, creating significant uncertainty around the timely distribution and utilization of appropriated resources across federal agencies. This withholding has generated legal challenges concerning the scope of executive authority in managing congressional appropriations, with a definitive resolution pending before the Supreme Court. 
 
While political in nature, the consequences extend far beyond government corridors, affecting businesses, taxpayers, and community organizations. Agencies dependent on federal approvals, grants, or data often face immediate operational disruptions, making proactive planning essential. 

Impact on Taxpayers and Businesses

Even during a shutdown, the Internal Revenue Service continues to collect taxes. However, its responsiveness can be significantly reduced. Refund processing, audit resolutions, and taxpayer assistance services may experience delays, and credit applications or access to financial verifications dependent on IRS data can be affected. 

Electronic systems may remain operational, but limited staffing can slow the processing of amended returns and correspondence. Taxpayers should anticipate extended timelines for notices, rulings, and other communications. For businesses, delays in approvals, audits, and regulatory guidance can impact financial reporting and operational decisions. 

Challenges for Not-for-Profits and Community Organizations 

Nonprofits face unique challenges during a shutdown. Many rely on federal grants and contracts to sustain critical programs. Delays in payments or approvals can strain cash flow and complicate operational planning. Pending grant renewals or new applications that require federal sign-offs may be postponed, while the demand for community services often rises in times of economic uncertainty. 

Board oversight and governance play a critical role in navigating this period. Leadership teams must stay informed about funding disruptions, program adjustments, and compliance obligations to maintain organizational stability. Transparent communication with donors and funding partners is essential to preserve trust and demonstrate sound stewardship of resources. 

Operational and Compliance Disruptions 

Shutdowns can disrupt administrative and compliance processes for both nonprofits and private sector entities. Tax-exempt status filings, grant approvals, and federal contract payments may be delayed or suspended. Limited access to federal databases and guidance can slow financial reporting and decision-making. 

Documenting these interruptions is crucial for compliance and potential relief considerations. Organizations should ensure restricted funds are used appropriately and maintain records to demonstrate adherence to regulatory and contractual obligations. 

Financial Management During a Shutdown 

Proactive financial planning is essential. Organizations should assess liquidity and maintain cash reserves sufficient to cover 60 to 90 days of essential operations, including payroll and vendor obligations. Reviewing budgets, prioritizing mission-critical activities, and identifying opportunities to defer non-essential projects can help preserve operational capacity. 

Diversifying revenue streams beyond federal sources reduces reliance on government funding and enhances resilience. Maintaining clear communication with stakeholders, including donors and funding agencies, supports confidence and helps mitigate uncertainty. 

Building Resilience for the Future 

The length and impact of government shutdowns are unpredictable. Organizations that prepare strategically are better positioned to manage disruptions without compromising long-term objectives. Updated contingency plans, flexible operational structures, and transparent communication form the foundation for navigating uncertainty. 

Shutdowns also present opportunities to strengthen governance, reassess funding strategies, and enhance financial reserves. By combining prudent financial stewardship with adaptive operational planning, organizations can maintain stability and continue delivering on their mission, even during periods of disruption. 

Summary

Understanding the operational, financial, and compliance implications of a government shutdown allows organizations to act proactively. With foresight and disciplined planning, both taxpayers and nonprofit entities can minimize disruption and maintain confidence with stakeholders.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

The private equity landscape has reached a critical time period in 2025. Following numerous years of exponential growth rates, dealmakers now experience a very different reality of longer hold periods, tighter liquidity, and changing investor expectations. Many portfolio companies are now being held far beyond when they were originally expected to exit, creating additional pressure from limited partners (LPs) to expedite capital distribution back to investors. Simultaneously, capital formation cycles are lengthening as LPs become more strategic and selective with investments and dealmakers demonstrate capital discipline and efficient capital distributions.

This landscape presents a broader challenge for CFOs, deal teams, and LPs as they strive to navigate a complex scenario, reconciling the near-term focus of monetizing value versus the long-term focus of creating sustainable value. And to add to the complexity, the evolving tax reform (think One Big Beautiful Bill Act (OBBBA)), increased scrutiny on management’s compliance with regulations, and demands for better valuation transparency are all increasing the scrutiny on dealmakers.

This edition of TaxJourney® highlights deal-making trends that continue to shape U.S. private equity in 2025. From holding periods to liquidity considerations, this edition uncovers realities that can help navigate today’s reality while presenting tomorrow’s opportunities.

Deal Activity & Exit Environment

The recovery in private equity dealmaking has not progressed consistently in the first half of 2025. Transaction volume overall is subdued, and firms are still grappling with valuation gaps, high interest rates, and low availability of credit. Most managers have still withheld capital deployment pending clearer pricing and macroeconomic stability.

However, within this relatively flat landscape, exits ramped up in selected segments. In the first half of 2025, industry data shows firms announced 215 large exit transaction, a total value of $308 billion, representing the strongest mid-year proceeds in three years. Strategic buyers were the leaders in supporting these transactions, while IPO activity was muted, and results dwindled due to declining secondary buyouts (-9%) year-over-year. These selective exits show assets with reasonable preparedness and quality can still receive competitive bidder attention despite wider pressures.

One of the key trends is the lengthening of holding periods. Data shows that 35% of portfolio assets have now been held in excess of six years, which has led to substantial NAV being tied up and growing concerns by LPs regarding liquidity levels. With the mounting pressure, many firms are moving in the direction of more flexible valuations: 40% of managers indicated they would accept 5-10% discounts against their original underwriting in order to release liquidity; another 24% indicated they would accept larger haircuts between 10-20%.

In turn, market data shows firms are focusing on being exit ready much earlier in the cycle. 93% of private equity professionals indicate that being prepared to exit prior to the sale process will maximize valuations. Almost half of all professionals now begin their exit planning 12-24 months prior to sale, as being aligned around tax implications, buyer positioning, and valuation strategy much earlier in the sale process is an emerging competitive differentiator for deal teams.

Implication:

Although aggregate deal volumes continue to remain low, controlled exits are creating opportunities for value creation as well as liquidity. Managers, who are able to exit portfolios sooner rather than later and manage investor expectations while still applying discipline to exit processes, will be best positioned to return cash to LPs and maintain investor confidence during challenging times.

Liquidity & NAV Pressure

The dilemma of trapped capital versus investor liquidity is defining the landscape for private equity in 2025, as there remain a large percentage of net asset value (NAV) trapped in aged vintage funds; over 30,000 assets are waiting to be monetized. More than 35% have been held for over 6 years, which is much longer than intended by the original investment process. This creates a challenge for managers in recycling capital for new investments.

Limited partners (LPs) are moving away from traditional measures (i.e. internal rate of return (IRR)), and instead, are increasingly focused on distributions to paid-in capital (DPI). While IRR remains an important metric especially for mid to late cycle funds, the current situation is more about realized cash. In fact, 40% of GPs said they would accept a 5 to 10% discount to their original underwriting for immediate liquidity, and a further 24% said they would agree to a bigger discount of 10 to 20% to get distributions to their LPs.

Fund managers are turning to creative liquidity solutions such as GP-led continuation funds, secondary sales, and structured deals. These approaches provide partial distributions to LPs while preserving long-term ownership of high-quality assets, avoiding forced liquidations at weak valuations.

Implication:

Liquidity planning has become a strategy. Firms that can balance prolonged holding periods with innovative solutions will not only ease LP pressure, but will also become pressure tested in a capital formation constrained environment.

Fundraising Environment

Fundraising has become one of the top concerns for private equity managers in 2025. With fewer exits and delayed distributions, limited partners are pressing harder for realized returns before committing fresh capital. The result is a fundraising cycle that is more selective and far more competitive.

Recently published figures from the market demonstrate that closed fund values are nearly $223 billion for the first half of 2025 and are projected to be down 20% this year. Large funds continue to dominate inflows while mid-market and emerging managers face more challenges.

LPs also are conducting more oversight and favoring those firms with real experience, operational resiliency, and cash distributions (DPI) as opposed to just paper returns (IRR). This reinforces the importance of managing liquidity as a differentiator in fundraising.

Looking forward, fundraising conditions are likely to be tight until late 2025, and the pace of exits and realizations will be an important leading indicator for capital formation in 2026.

Dynamics of the Secondary Market

The secondary market has emerged as an important outlet for liquidity concerns within the private equity universe. GP-led funds continue to grow in popularity allowing for a mechanism for managers to continue owning quality portfolio companies while providing partial cash returns to their LPs as well. It is representative of a realignment of the exit strategy, firms are less often forced to sell as exits are more muted in the M&A space, and are leveraging continuation vehicles to maintain their value and optionality.

Similarly, secondaries are becoming a more traditional alternative to IPOs and traditional trades. A secondary allows one PE fund to sell its stake in a company to another PE fund, providing liquidity for the selling fund while maintaining an asset that continues to be part of the an ecosystem of private equity.

The market is not only increasing in use but also in scale. 2024 was an all-time high for secondaries fundraising at over $90 billion raised and just for H1 of 2025, there has been another $60 billion since then, without factoring full 2025 data, and we are already on track to surpass previous highs in 2025. However, despite all the record fundraising, the market is still described as undercapitalized expeditious deal flow continues to outpace capital. Roughly half of H1 2025 fund inflows were in one large fund is indicative of considerable supply and demand imbalance present in Fundraising Markets.

All of these developments combined are changing the expectation of capital in the industry. For investors, secondaries mean more creative exit pathways; for fund managers, they provide the tools to balance portfolio management while meeting LP expectations for distributions.

Sector & Geographic Trends

Private equity deal activity is experiencing significant sector divergence in 2025 instead of being evenly distributed. Technology and healthcare, for example, continue to garner strong investor interest, as a result of structural growth drivers like digital adoption, AI-enabled efficiencies, and demand resiliency in healthcare. In contrast, the industrials and consumer-facing sectors are lagging due to slower demand growth, higher input costs and more conservative consumer spending.

Geographic allocation trends are also illustrating this divergence. For instance, according to market data UK institutions are currently allocating an average of 7% to private equity assets while Nordic investors are allocating closer to 12%. Among the Nordics, Finland’s insurers are still allocating to tech, while Denmark’s banks and pensions are allocating to healthcare, co-investments, and secondaries. Sweden’s sovereign investors are holding firm, but leaning toward ESG and GP-led secondaries, while Norway’s sovereign wealth fund has largely stepped away from private equity. Macroeconomic risks are compounding these divergences. Existing tariff disputes, trade friction, and inflationary pressures are burdening supply chains and increasing volatility in valuations.

Takeaways for PE CFOs & Deal Teams

The private equity environment in 2025 is forcing CFOs, deal teams, and fund managers to revisit the leading fundamentals of portfolio and transaction management. Preparation, liquidity planning, and tightening-up the fundraising narrative as the new metrics for success.

• Plan Exits Early – Exit preparation can no longer just be a last minute exercise. Firms should commence war-gaming in a 12 to 24 month cycle to line up earlier on valuations, buyer positioning and any potential tax triggers. Early planning mitigates the risk of execution and enhances the ability to characterize flexibility when the markets clear.
• Focus on Liquidity Tools – With a large amount of NAV remaining trapped in older vintages, CFOs should take advantage of continuation funds and secondary sales and other imaginative liquidity paths to create distributions without distress exits. Modeling distributions strategically will position CFOs to meet portfolio time horizons of liquidity and expectations of LPs.
• Balance IRR vs DPI – LPs are placing a heightened emphasis on the tangible cash returns (DPI) versus the paper returns (IRR). This can cause CFOs to remain focused on strategy in the near term versus in the longer time. It is also advisable to communicate distribution options with LPs.
• Adapt Fundraising Conversations – As mentioned before, fundraising in a capital-rich market, focus on the differentiation. While its practically impossible for mid-tier and smaller firms to compete with larger firms dominating the fundraising process, distinguishing any operational finesse, specialization or intellectual capital; historical investment drawdowns; and advanced approaches to tax efficient planning should create the impression of separation.
• Observe Macro Risks – Unresolved geopolitical risk, tariff regimes, and tax reform measures in the U.S. like OBBBA complicate deal structuring. CFOs should incorporate scenario modelling and stress testing into their planning for greater robustness.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

Cross-border M&A remains a significant growth area for U.S. based businesses, providing market, technology, and capital opportunities. However, the tax consequences of cross-border transactions have become significantly complicated due to multiple jurisdictions, evolving treaty interpretations, and overlapping or even contradictory compliance requirements, which pose increased challenges for deal teams and CFOs.

TaxJourney® offers a U.S. focused framework to help dealmakers, tax professionals, and investors navigate cross-border M&A tax complexities. This edition covers key issues like withholding mismatches, treaty documentation, FTC planning, and state compliance, providing strategic insights to structure deals and mitigate risk.

• Cross-Border Growth – Expanding into new markets requires careful tax planning.
• Treaty Benefits – Tax treaties can reduce or eliminate double taxation.
• Foreign Tax Credits – Proper use of FTCs lowers effective tax exposure.
• Compliance – Multi-jurisdictional reporting demands robust systems.
• Risk Mitigation – Anticipating risks protects value and smooths integration.

Cross-Border M&A Tax Complexity – Current Challenges?

Cross-border M&A provides new avenues for growth, but the IRS has made negative changes that have a large impact on deal structuring. Companies and deal teams also face various challenges, including:

• Increasing Compliance Complexity for Multi-Jurisdictional Deals – With every foreign jurisdiction involved in the cross-border transition comes its own reported standards, filing requirements, and tax laws, all of which need to be sorted through at the same time, putting massive pressure on compliance teams.

• Debated Tax Regimes, Tax Treaty Related Claims & Reporting Obligations – Tax treaties are agreements between jurisdictions to minimize double taxation. However, it still may be challenging to properly interpret the tax treaties or to properly apply the treaty benefits. Generally speaking, dealing with tax treaties will often have inadvertent consequences for our clients that may unnecessarily expose them to more tax than was originally intended, while at the same time extending the closing timeline.

• IRS Increasingly Watching Certain Cross-Border Tax Transaction Structures – With the IRS expanding their watching eyes on cross-border transactions, they are not only focused on related party transfers pricing but also on foreign tax credits, and treaty-based positions. The best deal teams can do is max out their documentation and maintain it in a defensible structure to avoid operational challenges or disputes or penalties.

Key Compliance Pillars

Robust U.S. tax knowledge is essential to the viability of cross-border M&A. Four fundamental pillars have significant implications for deal planning and execution:

• Permanent Establishment (PE) Rules – Understanding the PE rules and when a U.S. taxing jurisdiction may emerge from business being conducted, U.S. taxpayers often do not scrutinize the foreign activity sufficiently to detect that they have created a PE, and vice versa for foreign taxpayers tax, authorities, will promote optimal structuring during deal capture and allow for the mitigation of best tax practice for the target.

• Foreign Tax Credits (FTC) – The appropriate claim of FTC is necessary for any company or MNE to mitigate double taxation in the U.S. by claims for foreign tax paid. Optimal handling of the FTC calculation during deal planning will lead to improved valuation modelling and potentially assist in negotiations.

• GILTI and BEAT Exposure – For a U.S. MNE, GILTI and BEAT have a very significant influence on outbound and inbound M&A structuring. Deciding on deal structuring at the front end to ensure certainty and to minimize unintended tax leakage is essential to deal success.

• Treaty Interpretation to Optimize Tax Performance – U.S. tax treaties provide scope to mitigate withholding tax, seek treaty benefits, and optimize tax efficiency of deals. Successful application of treaty provisions require making sure that appropriate supporting documentation is progressed, and due diligence becomes crucial.

Navigating Cross-Border Deal Tax Challenges

Cross-border M&A deals require multiple tax systems to be effectively addressed and, oftentimes, even minor blunders can result in unanticipated liabilities, extended deal timelines, and/or a shrinking deal value. Two of the paramount areas to plan around are jurisdictional differences in tax and treaty-based planning.

Jurisdictional Differences

Tax rules vary greatly across countries, with the failure to reconcile jurisdictional tax rules potentially affecting the results of the transaction as follows:

• Withholding Taxes on Cross-Border Payments – Dividends, interest, and royalties paid between jurisdictions are often subject to withholding taxes. Erroneously applying treaty rates or planning for these obligations can increase overall tax cost and reduce after tax returns on the deal.
• Capital Gains Tax Variation – Variety in capital gains taxes applied in different jurisdictions exists based on different rates and different events being taxable. Without a coordinated plan there’s a risk the buyer or seller have unexpected exposure that has an impact on the negotiations and price of the deal.
• Foreign Exchange (FX) Impacts – Currency fluctuations and foreign exchange (FX) gain or loss tax treatment can complicate valuation models. Advance planning can help protect the economics of the deal and maintain forecasts.
• Transfer Pricing Rules across Jurisdictions – Arm’s length prices must be established for cross-border transactions. Transfer pricing policies are regularly applied inconsistently resulting in scrutiny, audits, and dual taxation unless they are carefully aligned with local and U.S. requirements.

Jurisdictional Factor	Risk / Challenge	Impact on Deal
Withholding Taxes	Incorrect treaty application	Higher tax costs & reduced after-tax returns
Capital Gains Variation	Different rates & taxable events	Unexpected exposure affects pricing & negotiations
FX Impacts	Currency fluctuations & tax treatment	Distorted valuations & unreliable forecasts
Transfer Pricing	Misaligned policies	Audits, disputes & potential double taxation

Treaty Considerations

Tax treaties are essential to alleviating cross-border tax burdens, but they are not always simple to use, especially on the fly as part of a multi jurisdictional deal:

Why Treaties and Taxes Matter?

U.S. tax treaties are a valuable feature that will often lower withholding rates, remove double taxation and offer some specific relief from taxation relating to the cross-border transactions. Structuring deals with efficient tax treaty treatments in mind will often lead to much increased cash flows and returns once the deal is completed.

Why You Should Prepare Documentation?

To get treaty benefits, you need documentation IRS Form W-8BEN/E or residency certificates. Any missing or misfiled documentation could lead to denied relief, unwanted leakage of tax, could lead to denied relief and unwanted tax leakage.

Leveraging Tax Treaties in Cross-Border M&A

Efficient treaty planning unlocks tax savings and maximizes deal returns.

Why Treaties Matter?

• U.S. tax treaties can lower withholding rates.
• Prevent double taxation across jurisdictions.
• Enable smoother cross-border deal structuring.
• Drive higher cash flows and post-deal returns.

Why Documentation Matters?

• Submit IRS Form W-8BEN/E or residency certificates to claim treaty benefits.
• Missing or misfiled documents can deny treaty relief.
• Documentation gaps can cause unexpected tax leakage.
• Proper filing prevents disputes and delays in deal closings.

Proactive treaty planning + accurate documentation = smoother closings and optimized tax outcomes.

M&A Structuring Considerations

A good framework for cross-border M&A deals is imperative to minimizing tax exposure, maximizing value post-deal and is subject to some situation, which may comprise citizenship or residence of the parties in the deal, relevant tax treaties, and overall business plan considerations.

Outbound vs Inbound Tax Implications

Tax implications of cross-border deals are quite different, depending on whether the deal is inbound or outbound deal.

Inbound Transactions (Foreign acquirors purchasing U.S. companies):

The specific focus areas in this kind of transaction will be, withholding taxes, treaties application, IRS Form 5472 reporting requirements on foreign-owned U.S. entities. Additionally, the buyers will need to look at exposures at the state and local level, which might not reflect federal treatment.

Outbound Transactions (U.S. buyers purchasing foreign companies):

The emphasis usually tends to be on foreign tax credits (FTC), local taxation management, and repatriation of profit from abroad earned. In cross-border deals outbound, it is necessary to appreciate GILTI and BEAT exposure, U.S. acquiror considerations.

Key Takeaway:

Cross-border M&A deals structuring involves balancing the U.S. federal jurisdiction rules, a foreign jurisdictions taxation, and any application of treaty relief to achieve the maximum tax efficiency for the two parties involved.

Strategic Vehicle Selection

Selecting the right vehicle will determine the tax result and compliance requirements extensively:

• Subsidiaries – A preferred method when assessing tax treaties and limiting liability. Accessing preferential withholding tax rates under U.S. or foreign tax treaty agreements.
• Branches – Easier to establish a branch, but direct exposure to foreign tax may arise. Often if operational presence is needed immediately in a target country.
• Hybrid Entities – Hybrid entities are structured to allow for regulatory tax flexibility, allowing companies to take reporting deductions, withholding minimizations, or dual treatment for income tax in other jurisdictions. Hybrid entities are effective when you’re aligning U.S. tax and foreign tax in the combined tax reporting.

Key Takeaway:

The best vehicle will depend on the transaction, country of transaction, and the long term operational plan. Planning your tax early will allow you to ensure the structure is conducive to compliance and operational effectiveness and efficiency in cost containment.

Choosing the Right Vehicle for Cross-Border M&A

Strategic Vehicle Selection: Impacts tax outcomes, and operational efficiency

Subsidiaries:

• Preferred for treaty benefits
• Reduces liability exposure

Branches

• Quick to establish, faster market entry
• Direct exposure to foreign taxes

Hybrid Entities

• Offers tax flexibility across jurisdictions
• Allows dual tax treatment benefits

Key Takeaway:

The optimal structure depends on the transaction type, jurisdiction, and long term operational strategy. Early planning ensures compliance and cost efficiency.

Practical Steps – Checklist for Deal Teams

To execute an effective cross-border M&A transaction, a systematic, phased approach is essential. Each phase of the transaction contains tax implications and integrated across each phase will influence value and compliance.

Pre-Deal Phase

The groundwork for a successful crossing-border deal is laid before deal negotiations commence. Proactively thinking through pre-deal tax planning has the potential to minimize any unplanned tax exposures as you advance your transaction with your target within cross-border interpretations:

• Confirm Treaty Benefits → Review relevant applicable U.S. and foreign treaties to take advantage of cross-border withholding tax rates and minimize the double taxation of income.

• Model Foreign Tax Credits (FTCs) → Model FTCs to determine amounts that limit or eliminate tax leakages that impact transaction valuations and prevent deals from closing due to tax principles.

• Review GILTI and BEAT Impacts → Evaluate a U.S. multinationals’ exposure regarding GILTI and BEAT when they enter or exit from a foreign jurisdiction.

During the Deal

Tax diligence during the transaction is critical to efficient deal structure and avoiding unpleasant last minute surprises:

• Confirm Withholding Tax Requirements → Based on a review of residency certificates from all parties for all cross-border payments to ensure the appropriate treaty withholding tax rates are all applied correctly.

• Structure Asset vs. Stock Purchase → Ultimately the preferred structure will vary based on tax efficiency, desired liability exposure and integration strategies post acquisition.

• Consider Transfer Pricing Compliance → Intercompany pricing policies will need to also be structured to abide by U.S. tax requirements and foreign localized tax requirements. Maintain a low audit risk profile by managing tax compliance policies between the related each entities.

Post-Deal Phase

When the deal closes, ensuring compliance and optimizing long term tax efficiencies as priorities:

• Plan for Repatriation Strategies → Identify the optimal tax efficient mechanism to repatriate profits back to parent entities, whilst minimizing additional tax exposure.

• Track Foreign Reporting Obligations → Ensure timely completion of filings such as for Form 5471 and other jurisdictional requirements, to avoid penalties.

• Maintain Treaty Compliance → Review the treaty based positions and supporting documents to ensure ongoing eligibility for reduced withholding rates and relief based on treaty.

Key Takeaway:

By establishing transaction phases ensures the deal team can address tax exposures much earlier in the transaction phase, structure transaction tax efficiently, and ensure compliance post-closing and during integration. Proactive planning is the difference between value being created and costs, in cross-border M&A.

Key Takeaways and Strategic Insights

Cross-border M&A can create an enormous number of opportunities for growth, international expansion, and shareholder value creation. But organizations must recognize that in an environment of changing U.S. and global tax rules, complicated treaty implications, and increased regulatory scrutiny, proactive tax planning is a must.

To create maximum value and mitigate risk, CFOs, dealmakers and tax leaders can:

• Plan for tax risks earlier so structures are developed with respect to timelines associated with the transaction.
• Optimize structures and transaction placement, to ensure operationalization of treaty benefits while increasing tax efficiency.
• Use phased tax diligence to monitor disclosures and develop an integration strategy.
• Leverage the use of technology and AI enabled insights to improve accuracy, speed, and reduce risk.

Organizations can create tax efficiencies, mitigate risk and drive sustainable value from cross border M&A activity through planning and structure.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

The One Big Beautiful Bill Act of July 4, 2025, implements comprehensive tax changes that seek to encourage business expansion, spur private investment, and increase the competitiveness of the U.S. economy. Although the legislation affects various industries, its consequence on the Private Equity (PE) sector is especially noteworthy.

This presentation provides an overview of the One Big Beautiful Bill Act (OBBBA) and its legislative purpose, along with an overview of main tax provisions important to the private equity sector. It cites what has changed, i.e., interest deductibility and QSBS improvements, and what has been left alone, such as carried interest treatment. The deck discusses how these reforms affect the fund level and the level of portfolio companies and presents new structuring and planning opportunities on the horizon. Collectively, these findings provide a strategic perspective on how OBBBA is transforming private equity investment, operations, and exit planning.

Key Highlights of OBBB –

• Signed into law on July 4, 2025.
• Reinstates full expensing for qualified property via 100% bonus depreciation.
• Raises the expensing cap under IRC Section 179 to $2.5 million.
• Returns to EBITDA-based limitation for interest deductions under Section 163(j).
• Expands QSBS exclusion threshold and introduces tiered holding period benefits.
• Leaves carried interest and long-term capital gains rates unchanged.
• Omits proposed foreign investor withholding tax (Section 899).

These provisions significantly influence fund strategy, capital structure, and tax modeling.

Carried Interest – What didn’t Change

• OBBBA preserves the current tax treatment for carried interest.
• Gains remain eligible for long-term capital gains rates if held for three or more years.
• This is a key win for general partners (GPs):
  • Maintains incentive alignment
  • Supports fundraising confidence
  • Avoids disruption to fee structures
• Limited partners (LPs) also benefit:
  • Ensures predictable fund economics
  • Preserves net-of-fee return consistency

Interest Expense Deduction – IRC Section 163(j)

OBBBA resurrects the EBITDA-based restriction on interest expense deductions in place of the more constrictive EBIT-based rule. This amendment is especially helpful for leveraged buyouts, infrastructure transactions, and capital-intensive industries. It maximizes permissible deductions, better preserves free cash flow, and offers increased flexibility in structuring debt. PE companies can now manage optimal debt levels across portfolio companies without suffering compressed tax shields.

Metric	EBIT Limitation (Pre-OBBBA)	EBITDA Limitation (Post-OBBBA)
Deduction base	Earnings Before Interest & Tax	Earnings Before Interest, Tax, Depreciation, Amortization
Impact	Lower deductions	Higher deductions
Effect	Tighter leverage limits	More flexibility for LBOs

Bonus Depreciation & Section 179 Expensing

OBBBA permanently reinstates 100% bonus depreciation for eligible property that goes into service after January 19, 2025. This enables instant full expensing of capital expenditures, which is especially helpful to manufacturers, logistics companies, and energy producers. Also, the Section 179 expensing limitation has been increased to $2.5 million, promoting small and middle-market companies to invest more boldly in equipment, technology, and fixed assets, with quicker payback.

Tax Provision	Pre-OBBBA	Post-OBBBA
Bonus Depreciation	80%	100%
§179 Expensing Cap	$1.05 Million	$2.5 Million

QSBS Expansion – IRC Section 1202

• Exclusion cap increased to greater of $15M or 10× basis (up from $10M).
• Gross asset limit raised from $50M to $75M.
• Excess gains taxed at ~28% collectibles rate.
• Encourages private equity investment in startups & high-growth sectors.
• Supports earlier exits and C-corporation structuring flexibility.
• Tiered exclusions by holding period:

Foreign Investor Relief – Section 899 Removed

• Proposed Section 899, which would have imposed withholding taxes on foreign investors, was excluded from the final OBBBA legislation.
• This preserves the structural integrity of cross-border fund vehicles.
• Ensures the continued attractiveness of U.S. private equity to global limited partners (LPs).
• International fundraising efforts remain unaffected.
• Protects foreign investor participation without new compliance burdens.
• Reinforces the U.S. as a stable jurisdiction for inbound private capital.

Portfolio Company – Level Impact

The tax reforms enhance financial performance and operating efficiency for portfolio companies. Expensing of R&D and capital expenditures on an immediate basis, enhanced deductibility of interest, and depreciation recovery contribute to increased after-tax cash flows. This facilitates quicker reinvestment in growth, enhanced EBITDA margins, and better enterprise valuation. Tax savings also offer debt repayment or financing of new projects flexibility.

• Increased Cash Flow
• Accelerated Write-offs
• Immediate Deduction
• Enhanced Capital Allocation
• Increased Valuations

Fund – Level Planning Opportunities

OBBBA produces greater structuring flexibility and tax planning. GPs can now consider electing C-corporation status on selected entities to optimize QSBS incentives or align more with exit horizons. Greater interest deductibility allows for more leverage and refinanced capital structures. Exit projections and IRR modeling can be maximized by applying new depreciation schedules and staggered QSBS exclusions, producing greater returns to both GPs and LPs.

Unchanged Tax Provisions under OBBBA

These unchanged provisions provide a sense of regulatory certainty amid broader tax reforms. By keeping the existing rules for carried interest and long-term capital gains, OBBBA supports the core financial structure of private equity funds. Allowing PTET workarounds helps funds manage state taxes efficiently; while avoiding new taxes on BDCs and private credit protects alternative investment strategies. This stability gives GPs and LPs the confidence to move ahead with structuring, fundraising, and long-term planning.

Area	Status	Implication
Carried Interest	Unchanged	Retains GP economics
Long-Term CG Rate	Unchanged	Exit tax planning stable
SALT Cap Workaround	Preserved	PTET strategies valid
Foreign LP Tax	Removed	Global fundraising protected

Strategic Takeaways for Private Equity Sponsors

• OBBBA enhances the strategic tax levers of private equity firms.
• Increased accelerated depreciation and broadened QSBS benefits enhance value creation potential.
• Improved interest deductibility enables more effective leverage and capital structuring.
• Long-term capital gains stability and carried interest maintain predictable fund economics.
• Simplified rules and exemptions kept in place diminish uncertainty in fundraising and LP communications.
• Private equity firms are well-positioned to match exit strategies with tax-effective timelines.
• The Act establishes a stable, pro-growth tax climate for investors and funds.

Summary and Outlook

The One Big Beautiful Bill Act provides focused tax relief to private equity without upsetting bedrock aspects of the business. It increases tax planning, structuring of funds, and valuation levers without losing the established long-term incentives that inspire investor trust. In the short term, companies can take advantage of these changes to fine-tune models, sharpen strategies, and drive outcomes throughout fund lifecycles.

• Private equity Tax Relief: Focused and targeted; preserves core tax rules.
• Future Outlook: Use this window to optimize models and lifecycle planning.
• Strategic Advantage: Enables better fund structuring and valuation.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

The One Big Beautiful Bill Act (OBBBA) delivers transformative enhancements to Qualified Small Business Stock (QSBS) under Section 1202, redefining how founders, investors, and PE funds approach exit planning and valuation.
These reforms aren’t just incremental, they’re reshaping the economics of startup investing and M&A structuring.

1. Earlier Liquidity with Tiered Holding Periods
Under the OBBBA 2025 framework, Qualified Small Business Stock (QSBS) issued on or after July 4, 2025 will follow a tiered capital gain exclusion schedule:

• 50% exclusion after 3 years
• 75% exclusion after 4 years
• 100% exclusion after 5 years

This replaces the previous 5-year cliff model, allowing investors to unlock earlier liquidity while still accessing meaningful tax benefits. The change is expected to influence exit planning, especially for founders, angel investors, and private equity funds seeking more flexible timelines.

2. Larger Tax Benefits with Increased Caps

• The lifetime per-issuer cap will raise from $10M → $15M.
• The 10× basis limitation stays the same.
• The new $15M cap is inflation-indexed beginning 2027, which provides long-term flexibility for founders, angels, and fund LP/GP arrangements.

3. Broader Eligibility – More Companies Are Eligible

• Asset limit for the issuer increases from $50M → $75M (also inflation-indexed beginning 2027).
• This update makes more capital-intensive and larger startups, as well as PE-backed portfolio companies, eligible for QSBS.

Private Equity and Startups: Why This Matters

• Faster secondary sales and exits, Investors can realize partial exclusions without waiting five years.
• Because there are additional qualifying companies, there are additional deal opportunities cantered around QSBS benefits.
• More planning, Broader eligibility and greater caps provide for more sophisticated portfolio strategies.

Key Takeaway:

With OBBBA 2025, QSBS is now more powerful, more flexible, and more valuable than ever, enabling tax-efficient exits and unlocking broader investment opportunities for funds and founders alike.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

The One Big Beautiful Bill Act (P.L. 119-21) marks one of the most consequential tax shifts in recent years, especially for private equity stakeholders.

From deal structuring and investment strategy to cross-border planning and compliance, this legislation introduces reforms that demand a fresh look at how capital is deployed and returns are realized.

Whether you’re a fund manager, family office, or portfolio company, understanding these changes is no longer optional, it’s essential.

Here are the key provisions every private equity stakeholder should be tracking:

1. Business Interest Limitation IRC §163(j): The Act reinstates the EBITDA-based method for calculating Adjusted Taxable Income (ATI), improving interest deductibility on leveraged buyouts and debt-funded deals. Starting in 2026, select foreign income exclusions will apply, further impacting interest deductibility.

2. 100% Bonus Depreciation & R&D Expensing: Portfolio companies can now fully expense capital investments upfront, boosting liquidity and cash flow. Domestic R&D costs are deductible in the same year, supporting innovation-driven businesses.

3. QSBS Expansion: QSBS benefits are significantly enhanced with higher exclusion thresholds and a tiered structure, making early-stage investments more tax-efficient and elevating VC-style strategies within private equity.

4. Carried Interest Treatment Remains Unchanged: Carried interest retains its long-term capital gains classification, preserving after-tax returns for fund managers and GP teams.

5. Gift & Estate Tax Exemption Increases: Higher exemption thresholds allow HNW LPs and fund principals to transfer wealth more efficiently, offering greater flexibility in estate planning.

6. International Tax Updates: OBBBA aligns U.S. international tax rules with global standards, streamlining treaty benefit claims and improving clarity for cross-border private equity investments.

7. Disguised Sales & Partnership Rules: The Act broadens the scope of taxable disguised sales, requiring LPs to reassess partnership allocations and exit strategies to avoid unintended tax exposure.

8. Excess Business Loss (EBL) Limitations: EBL limitations are now permanent, standardizing how portfolio-level losses are offset and enabling more confident long-term tax planning.

These reforms are more than technical, they’re strategic. They influence how capital is deployed, how returns are realized, and how tax impacts the private equity lifecycle.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

The One Big Beautiful Bill Act (OBBBA) represents a turning point in American tax policy, moving theoretical reform into legislation. Its measures revive and improve key tax incentives, such as 100% bonus depreciation, permanent Section 179 expensing, reinstated EBITDA-based interest deductibility, and enhanced Qualified Small Business Stock (QSBS) exclusions, that business buyers and sellers are now forced to factor into deals. These developments rebalance purchase price allocations, priorities for due diligence, and valuation models, especially in asset-heavy or pass-through deals common in M&A. What were once tax tailwinds or modest adjustments are now core drivers of deal economics.

In a post-OBBBA environment, M&A planning needs sophisticated tax planning throughout the board, from term sheet negotiation to integration and exit modelling. Buyers must project how leveraged finance and accelerated expensing affect cash flow and return projections; sellers may need to change structures to exploit QSBS benefits or preserve pass-through deductions. Cross-border investors now face new challenges to navigate with the impact of updated GILTI rules and reevaluated FTC structures. Simply put, tax expertise incorporated into valuation, financing, and structuring is now a critical part of successful deal execution, not an afterthought, but a foundational element of M&A strategy.

Quick Takeaways

• 100% Bonus Depreciation → Immediate asset expensing
• Section 179 Expensing → Increases capital investment efficiency
• EBITDA-Based Interest Caps → Impacts financing models
• QSBS Benefits → Tax-free gains optimization

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Evolving Tax Landscape Under ‘One Big Beautiful Bill’ – A Snapshot of Structural Tax Changes

Key Tax Changes Relevant to M&A

• 100% Bonus Depreciation & Section 179 Expansion: OBBBA reinstates 100% bonus depreciation for qualifying properties acquired in after January 19, 2025 (with a transitional 40%/60% election available for the first tax year ending after that date), and doubles the Section 179 expensing cap to $2.5M (phase-out begins at $4M). M&A Implication: Buyers of asset-heavy businesses can now front-load tax deductions, enhancing post-deal cash flow—but these benefits can create tension during purchase price allocation, as sellers may seek to minimize depreciation recapture.
• State & Local Tax (SALT) Cap Relief and PTET Preservation: The SALT cap increase to $40,000 is temporary (2025–2029), with a phase-down for incomes above $500,000 and potential reversion to $10,000 afterward, and pass-through entity tax (PTET) workarounds remain intact. M&A Implication: Sellers structured as pass-throughs in high-tax states retain valuable tax efficiency, aiding negotiation and valuation in asset sale structures.
• Permanent QBI Deduction (Section 199A): The 20% Qualified Business Income deduction for pass-through entities is now permanent. M&A Implication: Reduces effective tax exposure for seller entities, smoothing structural discussions and potentially enhancing seller net proceeds.
• Immediate Expensing of R&D Costs: Domestic R&D costs are fully deductible in the year incurred (no longer amortized over five years), effective for tax years starting after 2024. M&A Implication: Targets in innovation-driven sectors become more attractive to buyers due to improved after-tax earnings projections.
• Interest Deductibility Based on EBITDA: The more generous EBITDA-based limit is restored for business interest deductions (as opposed to the narrower EBIT test). M&A Implication: Enables higher leverage capacity within deals-especially for PE-backed acquisitions by expanding interest deductibility.
• Cross-Border and FTC/NCTI Changes: While not M&A-specific, the revamp of GILTI to Net CFC Tested Income (NCTI), enhanced Foreign Tax Credit mechanics, and revised treatment for mid-year CFC dispositions. M&A Implication: Affects deal structuring considerations for cross-border transactions, particularly for global fund or multinational entity buyers.

How These Reforms Reshape Transactions

M&A Impact Area	Key Tax Change	Deal-Level Implication
Purchase Price Allocation	Bonus depreciation & R&D expensing	Buyers may request asset-heavy allocations; seller recapture risk must be managed
Valuation Modelling	R&D, EBIDTA deduction shifts	Buyers must revisit DCF models to incorporate tax-boosted cash flows
Financing Flexibility	EBITDA vs EBIT limits	PE buyers gain increased leverage capacity and improved interest smoothing
Target Pool Attractiveness	QBI, R&D, depreciation tools	Innovation-rich and capital-intensive targets become more attractive
Cross-Border Strategy	NCTI/FTC revisions	Global M&A stakeholders need to reassess entity structuring to optimize tax

Increased Compliance & Reporting Focus

While not as M&A-specific, some measures demand closer attention from advisors:

• Expanded Reporting for Partnerships & Entities: Required disclosures (such as for Qualified Opportunity Funds) and penalty structures are now larger.
• Operational Diligence: Buyers must assess whether targets can support the required tax accounting, reporting, and audit readiness under the new rules.

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Key Impacts of OBBBA on M&A Deals

A. Deal Structuring Adjustments

• Asset Deals Become Even More Attractive – With OBBBA restoring 100% bonus depreciation permanently and increasing the Section 179 expensing limit to $2.5 million, purchasers can hasten tax recovery and enhance cash flow following an acquisition. This tax benefit also shifts deal structures more towards asset acquisitions, as acquiring firms want to “step up” asset bases to maximize deductions.
• Negotiation Dynamics – Price Allocation Tensions – Acquirers prefer asset-biased allocations, whereas sellers prefer to minimize depreciation recapture exposure. This phenomenon increases in OBBBA’s tax regime, introducing intricacies into purchase price allocation (PPA) deal negotiation.

B. Valuation Dynamics

• By bringing back full bonus depreciation, the OBBBA increases the appeal of asset-intensive companies (such as manufacturing or high R&D), whose valuations could be raised. Enhanced depreciation treatment and leverage flexibility can lower purchaser financing costs and enhance returns.
• Impact on Buyers: Improved cash flow expectations after purchase.
• Impact on Sellers: Higher valuations and more buyer competition for targets with high capital bases.

C. Cross-Border Transaction Complexities

Internationally, OBBBA brings important changes that have a direct impact on cross-border M&A:

• GILTI is replaced by Net CFC Tested Income (NCTI), expanding taxable reach of CFC income.
• Improved Foreign Tax Credits (FTC): eliminates previously mandatory allocations of interest & R&E expense, facilitating increased credit availability.
• Pro-rata allocation of income for mid-year CFC sales, adding complexity to deal-year tax planning.
• These changes have an impact on structuring considerations, requiring close tax modelling in cross-border transactions.

D. QSBS Benefits & Exit Strategies

OBBBA strengthens Qualified Small Business Stock (QSBS) provisions, directly influencing deal planning and exit strategies in M&A. These revised benefits apply to stock issued after July 4, 2025; earlier issuances retain the original 5-year/100% rule without partial exclusions. Key Impacts on M&A:

• Higher Tax-Free Gains – The exclusion cap rises from $10M to $15M, making equity exits more lucrative.
• Broader Eligibility – The gross asset threshold increases from $50M to $75M, allowing more companies to qualify for QSBS benefits.
• Faster Exit Opportunities – Partial gain exclusions are now available after 3–4 years, enabling earlier monetization of investments.
• This expansion boosts valuations for high-growth companies, makes startups and mid-sized businesses more attractive acquisition targets, and provides buyers and sellers with greater deal structuring flexibility to optimize returns.

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Due Diligence Imperatives

Enhanced Focus on Tax Due Diligence Under OBBBA:

Under the OBBBA framework, comprehensive tax due diligence has become a critical requirement for securing successful M&A transactions. The permanence of key provisions, such as bonus depreciation, Section 179 expensing, and EBITDA-based interest limitations, introduces new tax planning opportunities but also creates potential areas of risk if not thoroughly evaluated.

Structural tax changes, including the transition from GILTI to NCTI, enhanced availability of foreign tax credits, and accelerated depreciation rules, require rigorous assessment during due diligence. These factors directly influence pricing strategies, deal structuring, indemnity negotiations, and overall transaction viability.

Additionally, reforms to depreciation and financing regulations may significantly affect enterprise valuations. Valuation models now need to be recalibrated to reflect updated cash flow expectations and the integration of new tax mechanisms, underscoring the need for heightened scrutiny when aligning a target’s financial and tax profiles under the OBBBA regime.

Identifying Hidden Liabilities in Advance to Prevent Post-Deal Disputes:

Reinstated tax provisions by OBBBA may lead to book-tick, tax-whack mismatches, concealed liabilities, or distortions in reported earnings.

Since bonus depreciation and accelerated write-offs of R&E are now available, buy-side teams need to ensure that targets don’t unintentionally misreport deferred tax liabilities or misallocate expenses, which can cause post-close adjustments.

Effective due diligence requires moving beyond surface-level financials to evaluate underlying tax positions, especially when assessing asset-heavy or highly leveraged targets.

AFSI Considerations in Partnership-Based Deal Structuring:

While the term Adjusted Financial Statement Income (AFSI) is not explicitly discussed in many OBBBA-related resources, its relevance in partnership-driven M&A transactions is significant. Under the OBBBA framework, the conversion of GILTI to NCTI and modifications to foreign tax credit rules directly affect multi-tiered structures and foreign-controlled entities.

For purchasers, accurately evaluating AFSI calculations before and after OBBBA implementation is critical to understanding the true tax exposure of the target entity. This becomes especially important in private equity and partnership-based deals, where non-corporate entities may now report materially different taxable income. Such discrepancies can directly impact waterfall models, GP/LP distributions, and projected cash flows, making thorough analysis and modelling a key component of successful deal structuring.

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Risk Mitigation & Strategic Planning

OBBBA has reshaped the tax landscape, increasing the need for deeper due diligence and forward-looking planning. From modeling deal structures to mitigating hidden tax risks, the following strategic priorities outline how buyers and sellers can better navigate complex M&A environments.

Strategic Area	Key Focus	Impact on M&A	Recommended Actions
Deal Model Flexibility	Integrating OBBBA-related variables like depreciation reforms, EBITDA caps, and NCTI adjustments	Shifts taxable income projections and impacts overall deal valuations	Build dynamic deal models with multiple scenarios to assess exposure levels
Tax Optimization Opportunities	Utilizing elections, credits, and structuring options under OBBBA	Potential to minimize tax liabilities and maximize post-deal returns	Evaluate Section 179, bonus depreciation, and FTC provisions during planning stages
Cross-Border Considerations	Adapting to revised foreign tax credits and tax requirements	Impacts financing structures and global effective tax rates	Coordinate early with cross-jurisdictional tax advisors to mitigate compliance risks
Regulatory Monitoring	Ongoing modelling of OBBBA variables and deal-year effects (e.g., interest, depreciation, CFC allocation)	Minimizes risk of unexpected exposures or post-deal disputes	Establish continuous monitoring and update deal documents as guidance evolves
Risk Containment Measures	Identifying hidden tax risks during due diligence	Ensures accurate pricing and reduces potential indemnity claims	Deep tax diligence on bonus depreciation/§179, interest-limit impacts, and cross-border NCTI/FTC modelling.

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Strategic Outlook On M&A In A Changing Tax Landscape

As the One Big Beautiful Bill Act (OBBBA) continues to take shape in practice, its influence on M&A dynamics is set to extend well beyond current deal structures. The permanence of provisions such as accelerated expensing, EBITDA-based interest deduction rules, and enhanced pass-through incentives is already reshaping valuation benchmarks and financing strategies. Dealmakers who anticipate these shifts and proactively adapt their models will be better positioned to achieve competitive valuations, optimize capital structures, and execute transactions designed to withstand evolving tax frameworks.

Moreover, the legislative and regulatory landscape remains fluid, with forthcoming IRS guidance and interpretive updates expected to refine OBBBA’s practical application. This makes continuous tax monitoring and strategic planning integral to successful deal execution. Whether managing layered financing arrangements, structuring cross-border transactions, or modelling complex waterfalls, early integration of tax considerations has become a decisive advantage. Tax planning is no longer a technical formality; it is a strategic differentiator that drives value creation and ensures resilience in an ever-changing M&A environment.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

The One Big Beautiful Bill Act (OBBBA) introduces targeted modifications that intersect directly with the Corporate Alternative Minimum Tax (CAMT) regime. While several provisions create new planning opportunities for private equity (PE) funds and portfolio companies, the legislation also preserves key tax treatments that support market stability.

For fund managers, these changes require balancing immediate opportunities with longer-term strategic considerations in modeling, structuring, and investor communications. Importantly, many of OBBBA’s favorable “regular” tax provisions may unintentionally increase CAMT exposure. This is because they reduce taxable income without lowering adjusted financial statement income (AFSI). The result: potential CAMT liability even in years when regular tax benefits are available, along with challenges in utilizing CAMT credits under general business credit ordering rules.

CAMT Update Expands Options for Partnerships While Urging Prudence

The Treasury and IRS recently released Notice 2025-28 (the “Notice”), which sets out measures intended to simplify how the CAMT rules apply in the context of partnerships. Although positioned as a compliance-friendly step for corporations with partnership interests, the real-world application is more complex than the initial framing might imply, and the flexibility offered comes with important practical considerations.

In many cases, reliance on the Notice will also require reliance on portions of the CAMT proposed regulations, bringing with them their inherent complexities. Moreover, several of the elections introduced under the Notice are not straightforward to apply and may carry adverse consequences in subsequent years.

To navigate these provisions effectively, taxpayers will need to model the potential effects of making the available elections or otherwise applying the Notice, taking into account both current and future AFSI impacts. Given the binding nature of these elections, a multi-year forecasting approach is essential before making any decisions.

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Approaches to Determining AFSI from Partnership Investments

Following the release of Notice 2025-28, applicable corporations now have multiple possible methods for determining their adjusted financial statement income (AFSI) related to partnership investments, even in situations that do not involve direct contributions to or distributions from the partnership.

These methods can generally be grouped into top-down and bottom-up approaches, each with variations depending on the financial accounting treatment, applicable rules, and elections available.

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Key Considerations for Applying the Notice’s New and Elective Rules

When determining an applicable corporation’s distributive share of AFSI under the partnership rules in Notice 2025-28, several practical points require attention:

• Neither the Top-Down Election nor the Taxable-Income Election can be applied straight from reported financial statement income (FSI) or taxable income. Both require specific modifications to ensure the AFSI amount linked to the partnership is accurately calculated.

• Corporations are allowed to make different elections for different partnerships, even mixing Top-Down and Taxable-Income Elections across their portfolio. While this tailored approach can improve outcomes, it is subject to certain constraints and benefits most from robust modeling.

• Opting for either election means early adoption of the “-5” rules and a binding choice that generally stays in place until updated regulations are released. Given the long-term nature of these elections, multi-year projections and a clear view of the broader -5 rule impacts are essential before making a decision.

• Confirming qualification for this election can be complex, often requiring swift information exchange within a section 52 group or a foreign-parented multinational group. This data may not always be readily available within the short decision window.

• Despite its name, the Reasonable Method provides only limited flexibility. It applies when partnerships, under the -5 rules, calculate and report Modified FSI, and it places the responsibility for allocating those amounts on the partnership. While there is some discretion in setting allocation percentages, the practical range of options is narrower than the name suggests.

1. Top-Down Election

• Includes in AFSI 80% of a top-down amount for a partnership investment, after adjustments.
• Eligibility: Applicable corporation partners.
• Not available to upper-tier partnerships (even if they have applicable corporations as partners).
• Start with the CAMT entity’s FSI from the partnership.
• Adjust for certain items, then reduce by 20%.
• Apply additional adjustments to determine final AFSI.
• Election is made in the partner’s return for the election year, on an investment-by-investment basis.
• Likely requires adoption of the proposed -5 rules.
• More complex than some statutory top-down methods.
• Likely requires use of this method (or Taxable-Income Election / -5 rules) for all partnership investments.
• Could have negative AFSI impact if the partnership interest is sold.
• Loss limitation rules apply.
• Requires tracking the partner’s CAMT basis in the partnership investment.

2. Reasonable Method

• Lets the partnership use any reasonable method to determine each partner’s distributive share percentage of Modified FSI.
• Eligibility: Partnerships that have early adopted the -5 rules and are computing Modified FSI.
• Partnership calculates each partner’s share of Modified FSI.
• Uses a Reasonable Method to set allocation percentages.
• Partnership includes a statement in its return describing the method used.
• Requires partnership adoption of the proposed -5 rules.
• Binding on the partnership until the tax year before revised proposed regulations.
• Allows use of a tax provisions-based ratio instead of a book-based ratio.
• Moves the burden of distributive share calculation from partner to partnership.

3. Taxable-Income Election

• Uses the partnership’s taxable income (with adjustments) to determine AFSI.
• Eligibility: Applicable corporation partners whose CAMT test group:
  • Owns ≤ 20% profits/capital interest, and
  • Has < $200M FMV in the partnership investment.
• Not available to upper-tier partnerships (even with applicable corporations as partners).
• Start with the CAMT entity’s taxable income from the partnership.
• Adjust for specific items to arrive at AFSI.
• Election is made in the partner’s return for the election year, on an investment-by-investment basis.
• Likely requires adoption of proposed -5 rules.
• Binding on the partner until the tax year before revised proposed regulations, or earlier if eligibility ends.
• Simpler than -5 rules.
• Tax-based starting point (rather than book-based) can mean lower AFSI.
• Eligibility testing is complex and must be done each year.
• Likely requires use of this method (or Top-Down / -5 rules) for other partnership investments.
• Negative AFSI impact possible if the partnership interest is sold.
• Loss limitation rules apply.
• Requires tracking the partner’s CAMT basis in the partnership investment.

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Approaches to Partnership Transactions under CAMT

In certain cases, a tax-free contribution to or distribution from a partnership can unexpectedly give rise to adjusted financial statement income (AFSI) for purposes of the Corporate Alternative Minimum Tax (CAMT). Recognizing this, the Treasury and IRS have exercised their regulatory authority to introduce mechanisms aimed at reducing or deferring that impact.

Following the release of Notice 2025-28, taxpayers now have a menu of six distinct approaches to postpone, for CAMT purposes, the financial statement income associated with such transactions. The choice of method often depends on whether the election is made at the partner level, the partnership level, or under specific eligibility conditions.

• An updated take on the proposed rules in Prop. Reg. Sec. 1.56A-20, offering an alternative computation for partnership contributions and distributions when chosen by an applicable corporate partner.
• A partnership-level election, requiring the agreement of all impacted partners, that applies Subchapter K principles for CAMT purposes to mirror conventional partnership tax treatment.
• Available to eligible partners, this option uses the partnership’s taxable income, rather than its financial statement income, as the starting point for calculating the partner’s share of AFSI.
• -20 Rules Without -5 Rules – Implements the original -20 rules in combination with certain designated regulations, but deliberately omits the -5 rules from application.
• -20 Rules With -5 Rules – Integrates the -20 rules, the -5 rules, and the designated regulations into a coordinated approach for determining AFSI.
• Reasonable Statutory Interpretation – Applies a taxpayer’s justified interpretation of the statute, which could support either full recognition of partner-level FSI from a contribution or complete exclusion of such income when contributed property is involved.

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Deferring FSI from Partnership Contributions and Distributions : Key Methods

1. Modified -20 Method

• An election for any CAMT entity partner to apply the proposed -20 rules with targeted modifications, in order to determine AFSI from partnership contributions and distributions.
• Any CAMT entity partner is eligible.
• Include the election in the partner’s tax return for the election year.
• Likely requires adoption of the proposed -20 rules by the electing partner.
• Unclear if adoption of the proposed -5 rules is also necessary.
• Once elected, binding until the tax year before revised proposed regulations take effect.
• Generally simpler than the original proposed -20 rules.
• May offer more favorable treatment in certain areas (e.g., partnership debt, recovery rules, and acceleration events).
• In some cases, could be less favorable than the original -20 rules.
• Uncertainty on how the election affects partnership-level reporting.
• Partnerships may need to maintain multiple CAMT books to track deferred sales property and related gain/loss events.

2. Full Subchapter K Method

• An election by the partnership (with consent of all relevant partners) to apply Subchapter K principles when determining AFSI for contributions and distributions.
• Only partnerships, not individual partners are eligible.
• Election is made in a partnership’s tax return for the election year.
• Must be applied to all contributions and distributions for the partnership.
• Once made, binding until the tax year before revised proposed regulations take effect.
• In certain situations, more favorable than both the original -20 rules and the Modified -20 Method.
• Creates a complex, parallel compliance system that may raise additional technical questions (e.g., handling partner-level FSI from contributions).
• Requires significant time and administrative investment.
• In some cases, could be less favorable than the other two methods.

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Further Provisions under Notice 2025-28

In addition to its primary provisions, Notice 2025-28 introduces several clarifications relevant to taxpayers adopting the proposed -5 and/or -20 rules. One significant change allows taxpayers to exclude from AFSI any financial statement income resulting from consolidation, remeasurement, deconsolidation, dilution, or ownership changes involving another partner, so long as the event does not constitute a realization event.

The Notice also extends the reporting timelines for partnerships, providing more time to supply CAMT-related information to partners in accordance with the proposed regulations.

With respect to reliance rules under the proposed regulations, taxpayers are now permitted to adopt either the -5 rules or the -20 rules independently, rather than being required to adopt both—a “decoupling” approach. However, it appears that early adoption of the specified regulations remains a prerequisite.

Finally, for those relying directly on Notice 2025-28, there is an added degree of flexibility: taxpayers may adopt either the -5 rules or the -20 rules, as modified by the Notice, without also adopting the specified regulations or adhering to the test group consistency requirement.

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Positioning for What Comes Next

Given the interaction between the OBBBA provisions and the elections under Notice 2025-28, taxpayers should conduct detailed, multi-year modeling to assess potential CAMT impacts. While certain OBBBA changes are favorable for regular tax purposes, they can also increase CAMT liabilities. Because these elections are binding, a thorough evaluation of their effect on AFSI, timing, and administrative requirements is essential. Strategic selection, based on a company’s specific facts, can offer meaningful advantages.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

Tax due diligence is a critical process in mergers and acquisitions, aimed at providing a comprehensive evaluation of a company’s tax position. This includes identifying potential exposures, uncovering unpaid tax obligations, and exploring opportunities for reducing tax liabilities, ultimately ensuring clarity and minimizing risks during the transaction.

Traditionally viewed as a buyer-centric activity, tax due diligence also offers significant advantages to sellers. By engaging a specialized sell-side team, sellers can thoroughly review their operations, pinpoint tax related risks, and implement effective remediation plans. This proactive approach allows sellers to address and resolve potential issues ahead of buyer scrutiny, facilitating smoother negotiations and enhancing overall deal value.

Significance of Tax due diligence for Buyers:

• Undisclosed Tax Liabilities: Targets may have hidden obligations such as unpaid corporate taxes, unresolved indirect tax issues, or pending payroll tax liabilities.
• Transfer Pricing Compliance: In cross-border transactions, under-documented or misaligned intercompany pricing can attract regulatory scrutiny and penalties.
• Verification of Tax Incentives: Significant tax incentives such as R&D credits or investment subsidies claimed by the target may later face challenges, leading to clawbacks or penalties if not properly substantiated
• Utilization of Tax Attributes: Valuable tax attributes, like net operating losses (NOLs), can become restricted or less valuable once ownership changes.

Significance of Tax due diligence for Sellers:

• Legacy Tax Disputes: Unresolved or ongoing tax audits and disputes can dissuade potential buyers or force a downward adjustment in deal pricing.
• Exit Taxation Challenges: The sale of a business may trigger significant capital gains or withholding taxes, directly impacting net sale proceeds.
• Indemnity and Warranty Arrangements: Buyers tend to demand robust tax indemnities to protect against post-closing surprises, potentially exposing sellers to extended risk.
• Cross-Jurisdictional Tax Compliance: International transactions may entail diverse tax regimes, which can expose sellers to risks such as unanticipated withholding taxes on repatriated funds.

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Tax Structuring

Tax structuring in mergers and acquisitions (M&A) is a sophisticated process aimed at optimizing the deal architecture to minimize tax liabilities for both buyers and sellers. It involves a comprehensive evaluation of the transaction form, whether it be a stock purchase, asset acquisition, or merger and a thorough assessment of the target’s tax attributes alongside the tax profiles of the parties involved.

• Deciding between a stock purchase, asset purchase, or merger carries distinct tax consequences. For instance, asset acquisitions may allow for a step-up in basis, enabling accelerated depreciation and immediate tax deductions, whereas stock purchases generally preserve existing tax attributes, such as net operating losses, but may also transmit legacy tax issues.
• Evaluating the target’s historical tax attributes, such as net operating losses, tax credits, and depreciation schedules is critical. These factors can significantly affect the overall tax efficiency of the transaction, influencing both the structuring and the valuation of the deal.
• The tax classification of the entities involved plays a crucial role. For example, aligning the deal structure with the buyer’s and seller’s tax status can help mitigate adverse tax consequences, ensuring that the planned benefits, whether through deductions or credits, are fully realized.
• Utilizing pass-through entities, such as LLCs and S corporations, can offer additional layers of tax efficiency. These structures often facilitate the flow-through of income and deductions, thereby avoiding double taxation at the corporate level.

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Post-Merger Integration

Post-Merger Integration (“PMI”) is essential for unifying the disparate strategies and objectives of merging entities under a cohesive long-term vision. By ensuring strategic alignment, PMI harmonizes varying goals to facilitate the realization of synergies, such as increased market share, cost efficiencies, and improved access to innovative technologies that drive value creation. In addition, the process emphasizes operational efficiency by consolidating processes, eliminating redundancies, and establishing a unified operating model.

Recognizing the critical importance of human capital, a robust PMI strategy also prioritizes cultural integration, bridging differences to foster a collaborative and cohesive workplace. Ultimately, effective PMI sustains business momentum and enhances financial performance, thereby delivering significant value to shareholders and ensuring the long-term success of the combined organization.

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Exit Planning

Firms must determine the optimal transaction structure (e.g., whether an asset or share sale) to minimize capital gains and manage deferred tax liabilities. Timing is critical due to shifting tax regulations, and cross-border deals add layers of complexity with varying local tax laws and potential double taxation. Additionally, safeguarding tax attributes like net operating losses or credits is vital to preserving post-exit value. We help by crafting exit strategies that minimize tax burdens while maximizing deal value by evaluating whether an asset or share sale best suits the client’s needs, advise on optimal timing amidst evolving tax laws, and manage cross-border tax complexities. In order to preserve valuable tax attributes (e.g., net operating losses and credits) ensuring that the exit is as tax-efficient as possible.

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Preserving Key Attributes

Preserving key tax attributes (most importantly net operating losses (“NOLs”)) in mergers and acquisitions presents a multifaceted challenge, compounded by evolving tax regulations and cross-border complexities. Below is an enhanced overview of the primary challenges and strategic considerations:

• Change-of-Ownership Limitations: Under Section 382, significant ownership changes cap the annual offset of pre-acquisition NOLs, diminishing their post-transaction value. Careful planning is key to managing this limitation and preserving effective utilization.

• Structural Trade-Offs: Transaction structure is key. Asset sales may trigger a basis reset that risks NOL continuity, while stock sales typically preserve tax benefits but could bring legacy liabilities. Tax-deferred reorganizations often provide a balanced, tax-neutral alternative.

• Emerging Tax Burdens: The dynamic tax landscape marked by global minimum taxes, revised depreciation rules, and intensified compliance requirements demands precise forecasting and innovative structuring strategies to protect and optimize tax benefits established at closing.

• Double Taxation Risks: In cross-border transactions, varying local tax laws can lead to double taxation when NOLs recognized in one jurisdiction are not fully acknowledged in another. Effective tax planning, leveraging tax treaties and aligning domestic treatments is essential to mitigate these risks.

At SWBA, we begin with meticulous due diligence, assessing key tax attributes such as net operating losses, credits, and liabilities to ensure a comprehensive understanding of both risks and opportunities. We assist with selecting the optimal transaction structure, whether that be an asset sale, stock purchase, or tax-deferred reorganization to maximize tax benefits while addressing change-of-ownership limitations and managing legacy liabilities effectively. Through specialized cross-border tax planning, we navigate the complexities of multi jurisdictional regulations, mitigating double taxation risks through strategic use of tax treaties and aligned domestic treatments. Our proactive approach to evolving tax regulations, including global minimum taxes and updated depreciation rules, safeguards your post-transaction tax profile and ensures long-term compliance and financial efficiency.

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Next Wave of Cross-Border Mergers and Acquisitions

Shaping Tomorrow’s Global Deals

Cross-border mergers and acquisitions (M&A) remain a vital element of global business growth, empowering companies to broaden their market presence, strengthen competencies, and achieve cross-border synergies. With the evolving landscape influenced by globalization, changing tax regulations, and dynamic trade policies, businesses must navigate new challenges and seize emerging opportunities to stay ahead. Below is a detailed exploration of the key factors shaping the future of cross-border M&A.

Emerging Markets & Digital M&A

Businesses are increasingly targeting emerging economies, capitalizing on high-growth regions fueled by a rising middle class, accelerated urbanization, and technological advancements. Simultaneously, the rapid proliferation of digital technologies is transforming industries like fintech, e-commerce, and renewable energy, driving global M&A activity and fostering strategic, innovative collaborations.

Global Taxation Challenges

Governments worldwide are enforcing increasingly stringent tax policies through initiatives like Base Erosion and Profit Shifting (“BEPS”) and General Anti-Avoidance Rules (“GAAR”), necessitating precise and strategic tax planning to ensure compliance while protecting value. Cross-border transactions pose challenges in transfer pricing, requiring well-structured strategies to align with international regulations and prevent disputes. The effective utilization of bilateral tax treaties is critical for minimizing withholding taxes and enhancing cash flow efficiency in global operations.

Evolving Trade Patterns and Geopolitical Changes

The rise of protectionism has introduced significant obstacles for cross-border mergers and acquisitions, as heightened scrutiny over foreign investments in strategic industries, often tied to national security concerns, limits deal opportunities. Geopolitical tensions, including trade sanctions, political instability, and economic nationalism, further complicate the landscape requiring businesses to develop agile and adaptive strategies. Additionally, currency volatility presents risks to transaction valuations and financial outcomes, making the implementation of effective hedging strategies an essential aspect of comprehensive transaction planning.

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Industry Focused M&A Tax Solutions

Financial Services

Banking, insurance, and fintech: conduct meticulous due diligence to uncover hidden liabilities, streamline tax compliance, and navigate integration challenges such as aligning regulatory frameworks and mitigating double taxation.

Healthcare

Scrutinize R&D and clinical trial costs to maximize credits while optimizing transfer pricing across entities. This targeted approach uncovers hidden liabilities and streamlines the tax structure for a more efficient post-deal integration.

Manufacturing

Verification of fixed asset records and depreciation schedules to ensure accurate write-offs and valuations by assessing intercompany transactions and supply chain arrangements to uncover hidden liabilities while leveraging incentives like accelerated depreciation and energy efficiency credits, optimizing the deal’s tax structure for a smoother integration.

Technology

In the technology sector, encompassing software, SaaS, and artificial intelligence, we streamline deal value by optimizing R&D credits and structuring IP transactions for tax efficiency all while adapting to rapidly evolving business models. In the technology sector, encompassing software, SaaS, and artificial intelligence, we streamline deal value by optimizing R&D credits and structuring IP transactions for tax efficiency all while adapting to rapidly evolving business models.

Real Estate

From property taxes and depreciation concerns to complex asset structuring. We tackle these issues by conducting precise due diligence to pinpoint exposures like depreciation recapture, advising on optimal transaction structures to maximize tax benefits.

Private Equity & Investment Management

We conduct deep due diligence to uncover hidden liabilities and advise on structuring deals for optimum tax outcomes. Structuring complex tax transactions, capital gains optimization, and cross-border compliance to ensure transactions are tax-efficient while safeguarding investor returns.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

Private equity funds allocate the proceeds from investment sales according to a defined hierarchy known as the “distribution waterfall.” Typically, the first tier of this waterfall involves returning “invested capital” to the investors, which generally includes their unreturned capital contributions attributable to realized investments and associated fund expenses such as management fees.

The second tier provides investors with a preferred return or hurdle rate on that capital. If the hurdle return applies, a third tier often follows, commonly referred to as the “catch-up”, which allows the general partner to receive the majority of subsequent distributions until it has received its full carried interest share of the fund’s net profits. Thereafter, any remaining proceeds are split between the investors and the general partner based on the agreed carried interest allocation.

Return of Capital

In contrast to hedge fund investors, who typically retain redemption rights, private equity investors receive liquidity incrementally as the fund exits its investments and distributes the proceeds. Accordingly, private equity funds distribute (rather than reinvest) the proceeds from each sale to return capital to investors over time. As noted earlier, the first tier in most distribution waterfalls is the return of invested capital. The specific definition of capital to be returned before the general partner becomes eligible for carried interest varies across fund agreements. Broadly, funds tend to follow one of three approaches to capital return: (i) deal-by-deal, (ii) realized net gain, or (iii) full aggregation.

Under a deal-by-deal approach, capital returned to investors typically includes only the amount invested in the specific asset sold, plus any related management fees. If the fund provides for a preferred or hurdle return, this amount may also include the associated return allocable to that investment. Since this method disregards unreturned capital tied to the fund’s remaining portfolio, it may allow the general partner to begin receiving carry distributions before the investors have fully recovered their total invested capital.

Example: Suppose a fund with a “deal-by-deal” distribution waterfall invests in A, B and C at a cost of $10 million each. At the end of the second and third years, the fund sells A for $8 million and B for $15 million (respectively). Assuming a 20% carried interest, the fund would distribute the entire $8 million from the sale of A to the investors as a partial return of their capital invested in A. At the end of the third year, the fund would distribute the first $10 million from the sale of B to the investors to return all of their invested capital in B and the remaining $5 million to the investors and the general partner on an 80/20 basis. Over the first three years, therefore, the general partner would receive $1 million of total distributions, which exceeds 20% of the net $3 million gain from the sale of A and B:

As illustrated in this example, a carried interest that participates only in investment gains is like a call option: the general partner shares in the profits on the gain investments (investment B) without sharing in the losses on the loss investments (investment A). This is why very few funds allow the general partner to participate in investment gains on a deal-by-deal basis. Fewer still follow this paradigm without imposing a “clawback” on the excess distributions at liquidation. If the fund in this example had imposed a clawback, the general partner would have been obligated to restore the $400,000 excess distribution ($1 million – (20% × $3 million)) upon liquidation unless the future sales proceeds from the sale of C were sufficient to reimburse the earlier loss on A.

In funds that net realized losses against realized gains, the first tier of the distribution waterfall also reimburses the investors for any unreturned capital on the previously sold investments of the fund. The general partner in a fund that follows this paradigm will not receive a carry distribution until the gain on the current investment exceeds the aggregate net losses on the previously sold investments. If the waterfall includes a preferred return, the general partner will not receive a carry distribution until the gain on the current investment also exceeds the sum of the preferred return on such investment and the accrued but unpaid preferred return on the previously sold investments.

Example: Same facts as in previous example except that the fund aggregates gains and losses. Rather than distributing a full 20% share of the $5 million of gain on the sale of B, therefore, the fund would distribute the first $2 million to the investors to reimburse the loss on A and the remaining $3 million (rather than $5 million) to the investors and the general partner on an 80/20 basis.

Other funds aggregate all invested capital. In these funds, the investors are entitled to distributions equal to 100% of their invested capital in the first tier of the waterfall, including capital allocable to the unsold investments in the fund. Because the capital allocable to the unsold investments may be substantial, the general partner in these funds is unlikely to receive any carry distributions until late in the life of the fund.

Example: Same facts as the previous example except that the fund distributes proceeds on a fully-aggregated basis. Because the investors still had $22 million of unreturned capital in the fund after the sale of A, they would receive the entire $15 million of proceeds from the sale of B as an additional return of capital distribution.

Preferred vs Hurdle Returns

In a typical private equity fund, the first tier of the waterfall includes a preferred or hurdle return on invested capital. From the general partner’s perspective, a preferred return functions similarly to a return of capital, it represents an amount that must be paid to investors before the GP becomes entitled to any carried interest.

A hurdle return, however, serves a distinct purpose: it subordinates the GP’s carry until investors have received a minimum threshold return. In funds with a hurdle, the total carried interest ultimately payable to the general partner mirrors what it would have been in the absence of a hurdle, assuming the fund achieves the requisite minimum return on capital. To accomplish this, most fund agreements provide for a “catch-up” distribution immediately following satisfaction of the hurdle, allowing the GP to receive the majority of subsequent profits until it has received its full share of the fund’s net gains. When the fund performs well, this catch-up mechanism effectively neutralizes the economic impact of the hurdle on the GP’s overall share of profits.

The Carried Interest

The general partner is entitled to a fixed percentage of the fund’s net gains, a figure that cannot be definitively calculated until the fund has exited all portfolio investments and completed its liquidation. Consequently, regardless of the distribution model applied, the general partner’s right to retain carried interest from earlier distributions remains conditional i.e., it does not fully vest until investors have received 100% of their invested capital plus their share of residual gains (e.g., 80% in a fund with a 20% carry).

Nonetheless, many funds permit the general partner to receive carried interest distributions prior to full investor recovery. This structure rests on the investors’ assumption that the fund’s remaining assets will ultimately generate sufficient proceeds to repay any outstanding capital, including unpaid preferred or hurdle returns. If this assumption proves incorrect, particularly if weaker-performing investments are sold later, the general partner may end up receiving more carry than warranted. The risk of such over-distribution is highest in funds that allow early carry payments without escrowing a portion of those distributions or recognizing unrealized losses on unsold assets.

To address this imbalance and ensure a full aggregation of gains and losses, most fund agreements include a “clawback” provision, requiring the general partner to return excess carried interest if final fund outcomes fall short of the investor priority returns.

Tax Distributions

Regardless of when carried interest is actually distributed, the general partner is taxed annually on its allocable share of the fund’s net income. In successful funds that follow a full-aggregation model, where all invested capital is returned before any carry is distributed, this means the general partner and its members may incur tax liabilities well before receiving any cash distributions. Similar liquidity challenges can arise in funds using a deal-by-deal or realized net gain distribution model, particularly if the general partner is permitted to reinvest sale proceeds rather than distribute them.

To address these timing mismatches between taxable income and cash distributions, nearly all private equity fund agreements include a tax distribution provision. This provision allows the general partner (and in some cases, other partners) to receive cash distributions solely to cover their tax obligations, even if such payments would otherwise violate the standard priority of the distribution waterfall. These tax distributions override the waterfall only to the extent necessary to enable the payment of taxes on current and prior-year allocable gains.

The purpose of the tax distribution mechanism is consistent with other partnership agreements i.e., to mitigate cash flow issues caused by differences in timing between profit allocations and actual distributions. A well-drafted fund agreement will ensure that any tax distribution is offset by prior amounts distributed to that partner, whether for tax or non-tax purposes. This ensures that no partner receives a tax distribution in any year unless their cumulative tax liability exceeds their cumulative prior distributions. In practice, this typically results in tax distributions being made only to the general partner.

In larger funds, tax-exempt and foreign investors who are generally not subject to U.S. tax on most categories of investment income often constitute the majority of the investor base. Despite this, it is rare for funds to exclude these investors from the tax distribution calculation. Typical tax distribution provisions assume the following:

• All investors are subject to U.S. federal income tax at the highest applicable marginal rate;
• All investors are subject to the highest possible state and local tax rates (e.g., those applicable in New York City or California);
• Investors do not have losses or deductions from other sources to offset their tax liability.

Additionally, a robust provision will compute each partner’s assumed tax liability on a cumulative basis. Under this approach, a partner is entitled to a tax distribution equal to the product of the applicable tax rate and the excess of cumulative taxable income allocated over cumulative prior distributions. Thus, a partner who has not received any prior distributions will only qualify for a tax distribution if their cumulative share of income exceeds their cumulative share of losses across all prior tax years.

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This article is a part of Private Equity series by Small World Business Advisors LLC and is intended to give a generic overview of the operational mechanisms of a typical private equity fund. Nothing herein constitutes tax or legal advice. For more information, feel free to reach us at [email protected]

Copyright 2025 Small World Business Advisors LLC www.swbadvisors.com

Enacted on July 4, 2025, the One Big Beautiful Bill Act (“OBBBA”) constitutes a sweeping reform of federal tax and fiscal policy. Passed via budget reconciliation, the legislation integrates permanent extensions of prior tax provisions with newly enacted deductions, expanded reporting obligations, and targeted compliance mechanisms. The Act encompasses a broad spectrum of tax domains—including individual and corporate taxation, financial statement implications under U.S. GAAP, and administrative enforcement protocols.

While certain provisions are effective immediately, others are subject to phased implementation beginning in 2026. This document provides a structured summary of the Act’s principal tax-related measures, with particular focus on interpretive guidance issued by Treasury and IRS, effective date considerations, and areas where federal-state conformity may diverge— especially in fixed-date conformity jurisdictions.

R&D Tax Credit Coordination and Transition Rules

The Act introduces a coordinated approach between Section 174A, Section 41, and Section 280C to streamline how domestic research and experimental expenditures are treated for tax purposes.

Beginning with tax years after December 31, 2024, taxpayers must either reduce their deduction or capitalization of domestic research expenses by the amount of the Section 41 research credit claimed, or elect to take a reduced credit instead. This adjustment is treated as a change in accounting method, applied prospectively, without requiring retroactive corrections.

To support a smoother transition, the Act includes specific provisions for small businesses that meet the gross receipts test under Section 448(c). These businesses may retroactively apply Section 174A to tax years beginning after December 31, 2021, by amending prior returns or treating the change as a method adjustment.

Additionally, all taxpayers who incurred domestic research expenditures between 2022 and 2024 may elect to deduct the remaining unamortized balance over one or two tax years starting in 2025. This flexibility allows for more efficient recovery of previously capitalized costs and aligns with the broader goal of simplifying compliance and enhancing the utility of the research credit.

Revised Treatment of Business Interest Expense Under the OBBB Act

The One Big Beautiful Bill Act introduces several permanent changes to how business interest expense is calculated and deducted, particularly under Section 163(j). These updates aim to simplify compliance and offer greater clarity for businesses managing debt and capital investments.

• EBITDA-Based Deduction Framework Restored Starting with tax years after December 31, 2024, the calculation of adjusted taxable income (“ATI”) will once again include depreciation and amortization adjustments, effectively aligning ATI with EBITDA. This change allows businesses to deduct a larger portion of their interest expense, especially those with significant capital assets.
• Expanded Scope of Floor Plan Financing The definition of “motor vehicle” under the floor plan financing exception now includes trailers and campers designed for temporary living use. This expansion ensures that interest on financing for such inventory remains deductible, benefiting dealerships and retailers in the recreational vehicle sector.
• Exclusion of Certain Foreign Income from ATI Beginning in 2025, ATI will exclude specific foreign income components such as Net Controlled Foreign Corporation Tested Income (“NCTI”), Subpart F inclusions, Section 78 gross-ups, and related deductions. This adjustment narrows the base used to determine interest deduction limits, particularly for multinational entities.
• Clarified Treatment of Capitalized Interest The Act confirms that the Section 163(j) limitation applies to all business interest, whether deducted directly or capitalized. When interest is subject to capitalization, the allowable deduction is first applied to those amounts. However, interest capitalized under Sections 263(g) and 263A(f) remains outside the scope of this provision.

Permanent Extension of Excess Business Loss Limitation

• The One Big Beautiful Bill Act permanently extends the limitation on excess business losses for noncorporate taxpayers, effective for tax years beginning after December 31, 2026.
• Excess losses exceeding the annual threshold will be treated as net operating losses (NOLs) and carried forward to subsequent tax years without restriction to business income only.
• The Act also resets the limitation thresholds to $250,000 for single filers and $500,000 for joint filers, with inflation adjustments based on 2024 figures. These updated limits apply beginning January 1, 2026.

Updated Ownership Threshold for Taxable REIT Subsidiaries

Effective for tax years beginning after December 31, 2025, the One Big Beautiful Bill Act increases the allowable asset concentration in taxable REIT subsidiaries (TRSs). Real estate investment trusts (REITs) may now hold securities of TRSs representing up to 25 percent of their total assets at the close of each calendar quarter, up from the previous 20 percent limit.

This adjustment provides REITs with enhanced structural flexibility, enabling expanded subsidiary activities while maintaining compliance with existing REIT qualification requirements.

Revised Deduction Framework for Qualified Business Income

Beginning in tax years after December 31, 2025, the One Big Beautiful Bill Act introduces significant and enduring changes to Section 199A, aimed at enhancing accessibility and consistency for noncorporate taxpayers.

• The Act formalizes the 20 percent deduction for qualified business income (“QBI”), including earnings from REIT dividends, qualified publicly traded partnerships (“PTPs”), and specified cooperative activities. This rate differs from the 23 percent deduction proposed in earlier House legislation.
• Income phase-in thresholds have been expanded, allowing joint filers up to $150,000 and other filers up to $75,000 in taxable income before deduction limitations begin. This adjustment broadens eligibility for full deduction benefits.
• A guaranteed minimum deduction of $400 is introduced for taxpayers who materially participate in their businesses under Section 469(h) and generate at least $1,000 in QBI from active trades or businesses. This ensures baseline support for actively engaged individuals, even with modest earnings.
• Inflation indexing is recalibrated using 2024 as the base year, updating thresholds and deduction parameters to reflect more current economic conditions.
• The final legislation does not incorporate Business Development Company (BDC) interest dividends into the definition of qualified income, an element that was present in the House proposal but ultimately excluded from the Act.

PTET Treatment Under the OBBB Act

In response to the SALT deduction cap under the TCJA, many states adopted Pass-through Entity Tax (“PTET”) regimes, allowing partnerships and S corporations to pay state taxes at the entity level. The IRS affirmed this approach in Notice 2020-75, enabling deductions without applying the SALT cap at the individual level.

The One Big Beautiful Bill Act does not modify PTET provisions. Existing treatment remains in effect, subject to future Treasury or IRS guidance.

Long-Term Application of 24% Backup Withholding

Under IRC Section 3406, payors making reportable payments—commonly those disclosed on Form 1099—must obtain a valid U.S. Taxpayer Identification Number (TIN) from the recipient. If the recipient does not provide a TIN, backup withholding applies at a rate equal to the fourth-lowest individual income tax bracket under Section 1(c).

The Tax Cuts and Jobs Act (TCJA) temporarily set this rate at 24 percent through 2025. The One Big Beautiful Bill Act makes this rate permanent by extending the TCJA’s bracket structure indefinitely, preserving the 24 percent backup withholding rate beyond calendar year 2025.

Statutory Enhancements to ERTC Compliance and Claim Review

The One Big Beautiful Bill Act establishes several oversight provisions aimed at reinforcing accountability around Employee Retention Tax Credit (ERTC) claims tied to COVID-19 relief.

• Refund Claims Deadline Refund requests submitted after January 31, 2024, are no longer eligible. This marks a firm cutoff for retroactive filings.
• Extended Assessment Period The statute of limitations for evaluating certain ERTC claims has been expanded, granting the IRS additional time to review third- and fourth-quarter filings from 2021.
• Due Diligence Requirements for Promoters Individuals or entities offering ERTC-related services—classified as promoters—must meet specific due diligence obligations for Q3 2021 claims. Noncompliance results in a $1,000 penalty per failure.
• Criteria for Promoter Classification A person or firm is considered an ERTC promoter if they:
  
  • Earn compensation based on the value of ERTC claims and derive over 20% of their annual gross receipts from such services, or
  • Have gross receipts either exceeding 50% from ERTC-related activity or totaling at least $500,000 while also surpassing 20% of annual gross receipts.

ERTC Refund Deadlines and IRS Assessment Extension

Under the One Big Beautiful Bill Act, several provisions revise the treatment of Employee Retention Tax Credit claims related to the third quarter of 2021. Certified professional employer organizations are excluded from the definition of ERTC promoters and are not subject to the associated compliance penalties. Refund claims for Q3 2021 ERTC submitted after January 31, 2024, are no longer permitted, regardless of previous statutory timelines.

The Act also extends the IRS’s review period for Q3 2021 claims to six years. This window begins from the latest of the original quarterly return filing date, April 15 of the year following the calendar year in question, or the date the ERTC claim was made.

Additionally, taxpayers may file a refund claim for deductions denied due to disallowed Q3 2021 ERTC wages. These refund requests must be submitted within the same six-year review period.

Updated Employer Credit Thresholds for Child Care Assistance

The One Big Beautiful Bill Act incorporates legislative revisions to Section 45F as previously approved by the Senate and House. These changes apply to qualifying expenses incurred after December 31, 2025. Under the updated provision, the allowable employer credit for providing child care assistance is significantly increased. The annual cap rises from $150,000 to $500,000, while eligible small businesses may claim up to $600,000. Both thresholds will be adjusted annually for inflation to maintain their intended value over time.

Transition from GILTI to NCTI: Key Legislative Changes

The Act restructures the GILTI regime by removing the QBAI reduction and requiring inclusion of Net CFC Tested Income (NCTI). Beginning after December 31, 2025, the Section 250 deduction for NCTI and the related Section 78 gross-up is reduced to 40 percent. Foreign tax credits for NCTI are limited to 90 percent, with a 10 percent disallowance applied to taxes on distributions of previously taxed earnings and profits (PTEP). These changes result in an effective U.S. tax rate on NCTI between 12.6 and 14 percent.

These changes apply to taxable years of foreign corporations beginning after December 31, 2025. The disallowance of foreign taxes paid or deemed paid on distributions of previously taxed earnings and profits (PTEP) related to NCTI applies to distributions made after June 28, 2025.

For foreign tax credit limitation purposes, deductible amounts allocable to NCTI are limited to: (1) the Section 250 deduction, including taxes imposed under Section 164(a)(3), and (2) deductions directly attributable to the inclusion. Interest and research expenditures are excluded from NCTI allocation and instead assigned to U.S.-source income.

Finalization of TCJA Rate Reductions and Bracket Indexing Rules

The Tax Cuts and Jobs Act (TCJA) reduced the highest ordinary income tax rate from 39.6% to 37% for individuals, estates, and trusts—originally a temporary measure. The Act now makes this reduction permanent, maintaining the top bracket at 37%.

Income tax brackets remain subject to annual inflation adjustments. However, the Act selectively applies an additional year of inflation indexing to the thresholds for the 10%, 12%, and the starting point of the 22% brackets. This enhancement does not extend to the 35% and 37% brackets, which will continue to follow standard adjustment protocols.

Extension of Qualified Disaster Loss Provisions

The Act preserves taxpayer-favorable treatment for personal casualty losses that meet the criteria of Qualified Disaster Losses. Eligible taxpayers may deduct such losses without applying the 10% adjusted gross income (AGI) reduction typically required under standard rules.

These provisions remain applicable to disasters:

• Officially declared by the President no later than February 11, 2025
• Whose incident periods begin before December 12, 2024
• And conclude by January 11, 2025

While no substantive modifications were made to the prior Senate or House proposals, the Act effectively extends coverage. Certain disaster events occurring at the end of 2024 and the beginning of 2025 now fall within the statutory parameters and qualify under the updated definition of Qualified Disaster Losses.

Inclusion of State-Declared Disasters in Loss Relief

The Act formalizes the TCJA’s temporary limitation on itemized deductions for personal casualty losses, restricting deductibility to losses arising from Federally declared disasters. These include property losses unrelated to business or profit-driven activities, such as those caused by fire, storm, theft, or similar events.

Effective for tax years beginning after December 31, 2025, the Act expands eligibility to include “State Declared Disasters.” These are defined as natural catastrophes—such as fires, floods, or explosions—recognized jointly by the Governor of the affected state and the Secretary as warranting relief under the personal casualty loss provisions.

Standardization of Itemized Deduction Framework Post-TCJA

The Act solidifies the TCJA’s temporary repeal of miscellaneous itemized deductions—such as investment-related expenses, certain legal fees, and unreimbursed employee business costs— by making the repeal permanent.

Importantly, unreimbursed expenses incurred by eligible educators are excluded from this repeal. The Act ensures that qualified educator-related expenses remain deductible and are no longer categorized as miscellaneous itemized deductions.

Post-Enactment Modifications to Section 1202 Treatment

The Act codifies prior limitations under Section 1202, retaining the requirement that Qualified Small Business Stock (QSBS) be held for more than five years to qualify for the gain exclusion. The maximum exclusion remains the greater of $10 million—adjusted for prior exempted gains— or ten times the taxpayer’s aggregate adjusted basis in the disposed stock. The applicable exclusion percentage continues to depend on the stock’s issuance date, with a 100% exclusion applying to shares issued after September 27, 2010.

To qualify as QSBS, the issuing corporation must satisfy several criteria, including classification as a qualified small business under the gross asset threshold.

The Act introduces key changes to Section 1202, most notably:

• Establishment of a tiered exclusion framework based on holding period for QSBS acquired after July 4, 2025
• 50% exclusion for stock held three years
• 75% exclusion for stock held four years
• 100% exclusion for stock held five years or longer

Additionally, gain excluded under any tier is exempt from Alternative Minimum Tax (AMT) adjustments, streamlining compliance for eligible investors.

The Act increases the Section 1202 gain exclusion limit from $10 million to $15 million per issuer, with inflation adjustments beginning in 2027. This enhancement does not apply to taxpayers who have already utilized the full exclusion amount in prior years.

Additionally, the gross asset threshold for a corporation to qualify as a small business is raised from $50 million to $75 million, also subject to inflation indexing. These changes apply to Qualified Small Business Stock (QSBS) acquired on or after the date of enactment, with acquisition dates determined under Section 1223.

SALT Deduction Relief for Middle-Income Taxpayers

The Act temporarily increases the cap on the State and Local Tax (SALT) deduction to $40,000 for tax years 2025 through 2029, offering expanded relief to higher-income itemizers. For individuals filing separately, the cap is limited to $20,000 during this period. Beginning in 2030, the cap permanently reverts to $10,000 ($5,000 for separate filers).

In line with the House-passed bill, a phased reduction applies based on modified adjusted gross income (MAGI), beginning at $500,000 in 2025. Both the cap and phaseout threshold increase annually by 1% through 2029, with the deduction never falling below the $10,000 floor. All applicable limits and thresholds are halved for separate filers.

The Act does not alter the federal tax treatment of state and local taxes (SALT) imposed on passthrough entities. As a result, both elective Pass-Through Entity Taxes (PTET) and longstanding non-elective taxes—such as New York City’s Unincorporated Business Tax (UBT)— remain deductible at the entity level under current law.

However, the continued federal recognition of PTET regimes is based solely on IRS Notice 2020-75, which has not yet been codified. Accordingly, the deductibility of these taxes remains subject to future regulatory action by the Treasury Department. The SALT cap provisions introduced by the Act apply to taxable years beginning after December 31, 2024.

TCJA AMT Limits Made Permanent

The Act permanently extends the increased alternative minimum tax (AMT) exemption amounts and phase-out thresholds originally enacted under the TCJA. These provisions, which were set to expire after 2025, will now remain in effect beyond that date.

For inflation indexing purposes, the Act resets the reference year to 2025 rather than 2017. As a result, the exemption and phase-out thresholds applicable for 2026 will reflect the original 2018 TCJA values, without incorporating inflation adjustments from the intervening years. Indexation will resume from the new 2025 baseline.

The Act adopts key elements of the Finance Committee’s proposal by permanently extending the increased alternative minimum tax (AMT) exemption amounts and phase-out thresholds. Under this framework, the exemption figures will be inflation-adjusted from a 2017 base year, preserving cumulative adjustments made since the TCJA’s enactment.

Beginning in 2026, the phase-out thresholds will revert to the original 2018 levels—$500,000 for single filers and $1,000,000 for joint filers—with inflation indexing resuming in 2027. Notably, the Act deviates from current law by increasing the phase-out rate to 50% of alternative minimum taxable income exceeding the threshold, replacing the prior 2% reduction mechanism.

Temporary Deduction for Qualified Tips

The Act introduces a new above-the-line deduction for individuals receiving qualified tips in occupations where tipping is customary, applicable for tax years 2025 through 2028. This deduction is available even to those who do not itemize.

To qualify, the tip must be voluntarily paid, non-negotiable, and determined solely by the customer. Tips received in specified service trades or businesses, as defined under Section 199A(d)(2), are excluded. Additionally, individuals with earned income exceeding the threshold under Section 414(q)(1)(B)(i) are ineligible—though a 5% owner may qualify if their earned income falls below the limit.

A valid, work-eligible Social Security number is required to claim the deduction, and applicable payors must report qualified tips to the Secretary in prescribed informational statements.

The Act closely tracks the Finance Committee’s proposal with respect to the above-the-line deduction for qualified tips, but excludes the extension of the employer tip credit to beauty service businesses. The deduction is capped at $25,000 per year and is subject to a phased reduction of $100 for every $1,000 by which the taxpayer’s modified adjusted gross income exceeds $150,000 ($300,000 for joint filers). For this purpose, modified adjusted gross income includes adjusted gross income increased by any amounts excluded under Sections 911, 931, or 933.

Additionally, the Act expands the scope of eligible tip income by removing the exclusion tied to the compensation threshold under Section 414(q)(1)(B)(i). A transition rule applies to tax years beginning before January 1, 2026, permitting employers to use Treasury-prescribed estimation methods for reporting tip amounts.

Expanded Tip Reporting Obligations for Payors

The Act amends Sections 6041, 6041A, and 6050W to expand reporting obligations for payors issuing Forms 1099-K, 1099-MISC, or 1099-NEC in connection with service-related compensation. In addition to reporting total payment amounts—subject to applicable thresholds—payors must now:

• Separately identify the portion of payments attributable to cash tips, and
• Indicate the recipient’s occupation, as defined under Section 224(d)(1) of the One Big Beautiful Bill Act (OBBBA), which refers to roles where tipping was customary prior to December 31, 2024.

These modifications are intended to support the administration of the new above-the-line deduction for qualified tips and enhance transparency in tip-related income reporting.

Targeted Retention of Moving Expense Relief

The Act permanently repeals the above-the-line deduction for moving expenses incurred in connection with the commencement of employment at a new principal place of work, as well as the exclusion from gross income for employer-provided moving expense reimbursements. These changes align with the House-passed proposal and apply broadly, with exceptions retained for active-duty members of the Armed Forces.

In addition, the Act expands eligibility by extending both the deduction and the exclusion to certain members of the Intelligence Community who relocate due to a change in assignment. This provision recognizes the operational mobility requirements associated with national security roles.

The Act establishes Section 4475 under new Subchapter C of Subtitle D, Chapter 36 of the Internal Revenue Code, imposing a 1% excise tax on remittance transfers—defined as electronic fund transfers initiated by individuals in the United States to recipients located abroad.

The tax is imposed on the sender of the remittance, while the remittance transfer provider is responsible for collecting the tax at the time of transfer and remitting it to the Treasury on a quarterly basis. In the event of noncompliance, the provider becomes personally liable for the unpaid tax.

Additionally, remittance transfers that violate the anti-conduit rules under Section 7701(l) may be recharacterized as financing transactions for tax purposes.

Areas of Potential Federal-State Disconnect in Business Taxation

In fixed-date conformity states, several provisions of the Act may result in federal-state discrepancies unless specifically adopted at the state level. These areas of potential nonconformity include:

• Section 250 (GILTI and FDII deduction percentages) : Some states may retain prior deduction rates rather than adopting the updated federal percentages of 40% for GILTI and 33.34% for FDII beginning in 2026.
• Section 163(j) (limitation on business interest expense) : Certain jurisdictions may continue applying pre-2022 adjusted taxable income calculations that exclude addbacks for depreciation, amortization, and depletion.
• Section 174 (treatment of domestic research expenditures) : States may require continued amortization of research and experimental costs, despite federal changes permitting immediate expensing.
• Section 168(n) (expensing of qualified production property) : States may not conform to federal provisions allowing full expensing of qualified production real property under the new Section 168(n).

Impact of July 4, 2025 Tax Reform on Deferred Tax Accounting

In accordance with ASC 740, entities are required to recognize the effects of newly enacted tax legislation within the interim and annual reporting periods that include the enactment date.

Changes in tax law affecting deferred tax assets and liabilities as of the enactment date must be recognized in continuing operations and treated as a discrete item in the period of enactment. In contrast, income tax effects on current taxes attributable to current-year ordinary income are incorporated into the annual effective tax rate beginning in the enactment period. Similarly, deferred tax effects arising after the enactment date that relate to ordinary income are also included in the annual effective tax rate from the period in which the law takes effect.

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The information contained in this post is merely for informative purposes and does not constitute tax advice. For more information, feel free to reach us at [email protected]

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