Chiquita Brands International has agreed to merge with Irish company Fyffes. Bloomberg News

U.S. companies are busy buying overseas firms in deals that reduce their tax payments. Ironically, though, these mergers could saddle shareholders with higher tax bills.

In an "inversion," a U.S. firm merges with a foreign one, and shifts much of its income abroad.

For corporations, the goal is simple: to exchange the U.S.'s steep corporate tax rate, which runs as high as 35%, for a much lower one elsewhere. Take AbbVie, a U.S. pharmaceutical firm that plans to merge with Irish drug firm Shire this year. Once the deal is consummated, the combined company will be taxed as a U.K. corporation with an estimated rate of about 13% by 2016.

Other U.S. companies that have considered or are pursuing inversions are Pfizer, Medtronic, Walgreen, Chiquita Brands International, Applied Materials, Salix Pharmaceuticals, Mylan and Auxilium Pharmaceuticals.

Shareholders in companies pursuing inversions are likely to owe capital-gains tax if the deals occur, but, unlike with other taxable mergers, they won't receive any cash payment to help cover it.

The deals are taxable because the U.S. company, although it will ultimately control the foreign firm, is technically the one that's being acquired, says Robert Willens, an independent tax adviser in New York. The U.S. firm's shareholders will receive new shares to replace their old ones. That exchange is considered taxable by the Internal Revenue Service.

Shareholders of the U.S. firm usually don't receive cash in a merger of this kind, Mr. Willens adds.

As a result, if an investor bought shares in a firm at $10 apiece, and the firm "sells" itself in an inversion merger at $40 a share, the investor will typically receive shares in the new firm and owe tax on the $30 per-share difference between the original cost and the price at the time of the merger.

The new shares' cost is $40 each for future tax purposes, but the tax on the $30 must be paid using other funds, says Mr. Willens.

Currently, the rate on long-term capital gains ranges from zero to nearly 24%, depending on an individual's taxable income.



This article is provided by DailyPaywall.com, which is published and distributed by Paolo Cirio Ltd., registered in England, number 8188080. Registered Office: Suite 36, 88-90 Hatton Garden, City of London, EC1 N8PG, United Kingdom. Paolo Cirio Ltd. alone is responsible and liable for information and services provided through Daily Paywall’s newspaper and website.

Daily Paywall pays for reading these newspapers’ news!