6. Subsidies for Merging Firms

The chapter explores ways in which three tax privileges can mean that an acquisition which yields no operating gains (or results in operating losses) can secure increases in post-tax earnings. Debt finance receives privileged treatment in many tax systems: corporation tax is not levied on the portion of profits paid out in interest. A substantial debt-financed merger can therefore reduce the overall tax otherwise payable by the combination. Recently, ‘asymmetric monetary policy’ has reinforced this privilege accorded by the tax system: since the 2008 financial crisis, central banks have manipulated the market for debt so as to hold down interest rates payable by borrowers. Also, mergers can convert income streams into capital gains, which have enjoyed favoured tax rates. Private equity promoters have secured major benefits from the treatment as capital gains of income arising from M&A activities. And cross-border mergers have been used as a method of international tax arbitrage – shifting the acquirer’s profits to a lower tax regime. Illustrations are provided from a range of countries and industries.