Pryor Cashman Counsel Islame Hosny, a member of the Tax Group, wrote an article for Tax Notes in which he discusses tax gross-up arrangements that arise in many M+A and other transactions.
In "Managing the Economics of the Tax Gross-Up," Islame analyzes the mechanics of the gross-up formula, and explains why parties contemplating a tax gross-up arrangement might consider agreeing to a cap on the amount of the gross-up:
Mergers and acquisitions and other deals and business transactions are sometimes designed to provide one party with a tax gross-up paid by another party to the transaction. Yet many agreements contemplating a gross-up do not include a limitation or a cap. The justification offered is usually that a cap might prevent the party being grossed up from being made whole, which would defeat the purpose of the gross-up. But that position ignores the consequences of the gross-up to the paying party.
Islame also notes that while tax gross-up provisions should be designed to provide the intended benefits to the party entitled to receive the gross-up, these provisions should be carefully structured to avoid unintended results for the party required to pay for the gross-up:
While a tax gross-up is usually viewed as a benign provision intended to make one party to the transaction whole, the economics of the gross-up formula should be managed to not only achieve that result but also to prevent the amount of the tax gross-up from having a disproportionately negative effect on the paying party.
Read the full article by clicking the PDF link above.
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