Purchasers and sellers of businesses will often allocate the purchase price among the assets sold. Under Code §1060, the buyer and seller must make an allocation with their tax returns.
When the allocation is made in a written agreement, the parties are bound by it for tax purposes, except under the Danielson rule. Code §1060(a). That rule allows a party to contradict an unambiguous contractual term by offering proof that would alter that construction or to show its unenforceability because of mistake, undue influence, fraud, or duress.
Peco Foods purchased two processing plants. Portions of the purchase price were allocated to “Processing Plant Building” and “Real Property: Improvements.” Instead of capitalizing the purchase price into real property only (Code §1250 property), Peco conducted a post-closing study that broke these allocations into component parts, including allocations to specialized mechanical systems and other personal property assets (Code §1245 property). By doing this, Peco was able to increase its depreciation deductions through the use of faster write-off methods that are allowable under Code §1245.
The IRS objected, and the matter ended up in the Tax Court. The Tax Court sided with the government, and determined that a subdivision of the allocations to real property assets between real property and nonreal tangible personal property rule was an impermissible modification of the allocation in the purchase agreement.
WHERE’S THE VALUE HERE? Buyers of businesses should conduct their cost segregation analysis before the closing and conduct any refinements in the allocation in the purchase agreement, instead of doing these things after the agreement is finalized.
Peco Foods Inc. et al., TC Memo 2012-18