324 Planning and Forecasting
The acquirer may have lost any carryfor wards other wise available, but it
does obtain the right to carry the acquired assets on its books at the price paid
(rather than the amount carried on the target’s books). This is an attractive
proposition because the owner of assets used in business may deduct an annual
amount corresponding to the depreciation of those assets, subject only to the re-
quirement that it lower the basis of those assets by an equal amount. The amount
of depreciation available corresponds to the purchase price of the asset. This is
even more attractive because Congress has adopted available depreciation
schedules that normally exceed the rate at which assets actually depreciate.
Thus, these assets likely have a low basis in the hands of the target (resulting in
even more taxable gain to the target upon sale). If the acquirer were forced to
begin its depreciation at the point at which the target left off (as in a purchase of
stock), little depreciation would likely result. All things being equal (and espe-
cially if the target has enough tax-loss carryfor ward to absorb any conceivable
gain), Morris would likely wish to structure his acquisition as an asset purchase
and allocate all the purchase price among the depreciable assets acquired.
This last point is significant because Congress does not recognize all as-
sets as depreciable. Generally speaking, an asset will be depreciable only if it
has a demonstrable “useful life.” Assets that will last forever or whose lifetime
is not predictable are not depreciable, and the price paid for them will not re-
sult in future tax deductions. The most obvious example of this type of asset is
land. Unlike buildings, land has an unlimited useful life and is not depreciable.
This distinction has spawned some very creative theories, including one enter-
prising individual who purchased a plot of land containing a deep depression
that he intended to use as a garbage dump. The taxpayer allocated a significant
amount of his purchase price to the depression and took depreciation deduc-
tions as the hole filled up.
Congress has recognized that the above rules give acquirers incentive to
allocate most of their purchase price to depreciable assets like buildings and
equipment and very little of the price to nondepreciable assets such as land.
Additional opportunities include allocating high prices to acquired inventory so
that it generates little taxable profit when sold. This practice has been limited
by legislation requiring the acquirer to allocate the purchase price in accor-
dance with the fair market value of the individual assets, applying the rest to
goodwill (which may now be depreciated over 15 years).
Although this legislation will limit Morris’s options significantly, if he
chooses to proceed with an asset purchase, he should not overlook the oppor-
tunity to divert some of the purchase price to consulting contracts for the pre-
vious owners. Such payments will be deductible by Plant Supply over the life of
the agreements and are, therefore, just as useful as depreciation. However, the
taxability of such payments to the previous owners cannot be absorbed by the
target’s tax-loss carryfor ward. And the amount of such deductions will be lim-
ited by the now familiar “unreasonable compensation” doctrine. Payments for
agreements not to compete are treated as a form of goodwill and are de-
ductible over 15 years regardless of the length of such agreements.