Meaning
Legal agreement executed as a deed obligates the seller of a company to indemnify the buyer against any pre-acquisition tax liabilities. This document, known as a tax deed of covenant, allocates the risk of historical tax issues entirely to the seller, regardless of whether the liability was disclosed. It provides the buyer with a direct claim for pound-for-pound recovery of any post-completion tax bills.
Liability Allocation
In corporate transactions, the share purchase agreement contains general warranties, but this specific deed sits alongside it to provide stronger protection. The tax deed of covenant ensures that if a tax authority discovers a shortfall from a period before the sale, the seller must reimburse the buyer. This obligation remains active for a longer period than general commercial warranties, often spanning up to seven years.
It is a critical component of risk management in corporate acquisitions.
Indemnity Protection
The buyer is protected from the costs of defending against tax audits that relate to the seller’s period of ownership. Under the tax deed of covenant, the seller must also pay for any interest or penalties levied by the tax authority. This protection prevents the erosion of the target company’s value after the transaction closes.
It ensures that the buyer receives the business on the agreed financial terms.
Claim Procedure
Notification of any audit or assessment from the tax authority must be sent to the seller within a specified period. The tax deed of covenant requires the seller to handle or fund the defense. This protocol ensures an orderly resolution.
