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Challenges in Managing Corporate Actions

Challenges in Managing Corporate Actions. Richard Ryndak Senior Product Manager. April 20, 2011. Capital Changes. Some Background. About Capital Changes Subscription service used by financial community, law firms, accountants

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Challenges in Managing Corporate Actions

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  1. Challenges in Managing Corporate Actions • Richard Ryndak • Senior Product Manager April 20, 2011 Capital Changes

  2. Some Background • About Capital Changes • Subscription service used by financial community, law firms, accountants • Provides details about corporate actions and tax consequences • Analysis based on primary source documents and our own research • About myself • Senior product manager for Capital Changes • Former editor international corporate actions and other tax publications • 15 years as international trade and transactional attorney • About today’s presentation • Part I: High-level view of corporate actions • Part II: Closer look at cost basis reporting

  3. Part One Corporate Actions

  4. Corporate Actions • What is a corporate action? • An event by a company that affects its structure or securities • Merger, spin-off • Dividend, redemption • Complex reorganization, bankruptcy • Different views of corporate actions • Voluntary or mandatory • Voluntary: Shareholder must elect to participate • Mandatory: Does not require shareholder action (but may have elections) • Taxable or nontaxable • May trigger reporting obligations or basis adjustments • U.S. or foreign • Different terminology and tax concerns • Different withholding issues

  5. Corporate Actions Landscape (Oxera Study 2004) • About 1,000,000 corporate actions per year • Not including over 3M fixed-rate interest payments and scheduled maturities • Most actions are mandatory • 10-15% voluntary and therefore more complex • Geographic distribution • Approx 67% in North America • Approx 22% in Europe • Approx 11% ROW • Corporate Action types • 43% Dividend and income distributions • 27% Calls and redemptions • 14% Meetings, name changes, other simple events • 16% Other, non-standard often complex

  6. 2010 TowerGroup Survey Operational risk assessment survey of investment management firms • Of 42 firms that responded • 24% identified corporate actions function as having the highest level of operational risk • 43% consider corporate actions to be one of top three functions posing operational risk • Almost half the firms surveyed continue to struggle with risks posed by the corporate actions function

  7. Key To Managing Corporate Actions • Identify the corporate action • Know that it happened or will happen • Understand the terms and how they may affect you • Risk increases with cross-border events • Language barriers and differences in terminology • Different filing and notice requirements/methods • Act in time • Voluntary actions may require a vote or election • Book the corporate action accurately • Adjust shareholder position (new security and cash consideration or proceeds) • Comply with regulatory requirements

  8. Regulations Affecting Corporate Actions • Cost basis reporting • New requirements starting in 2011 • IRS granted provisional relief until 2012 • Firms still struggling to understand full implications • Redemption payments to NRAs • US withholding agents must withhold tax on payments to nonresident aliens if payment is subject to Sec. 302 • Sec. 302: redemption payment may be treated as dividend or capital gain/loss • Proposed regulations allow escrow procedure to insulate US withholding agent • Challenge is to identify which payments are subject to Sec. 302 • Other withholding rules • FATCA: Withholding on payments to foreign financial institutions in 2013 • Foreign withholding on payments to US shareholders

  9. Part Two Cost Basis Reporting

  10. Cost Basis Reporting Law - Basic Requirements • Brokers must • Report sale of a covered security, including basis and whether gain or loss is long-term or short-term, on Form 1099B • Furnish a transfer statement, including adjusted basis, when transferring custody of a specified security to another broker • Take into account information furnished on an issuer statement when reporting a sale or transfer of a security • Issuers must • File a return (or issuer statement) for any corporate action that affects basis of its security • Applies to • Stock in 2011 • Mutual funds and dividend reinvestment plan stock in 2012 • Debt instruments, options, other covered securities in 2013

  11. Understanding Basis • Initial basis in stock is generally acquisition cost • Basis may need to be adjusted over time • Some corporate actions require basis allocation • Stock split/dividend • Spin-off • Rights offering (where value of right is 15% or more of value of stock) • Some corporate actions may result in basis adjustment • Cash dividend (where all or part is return of capital) • Merger with boot • Rights offering (where value of right is less than 15% of value of stock) • Some corporate actions have other effects on basis • Basis carries forward • Basis equals fair market value on effective date • Complex reorganizations may combine all of the above

  12. Advent Software Stock Split • Common stock split 2-1 on January 18, 2011. Nontaxable. • If 100 shares bought for $5,000 on July 30 • Pre-split • Holding: 100 shares • Basis: $50 per share • Total Basis: $5,000 • Post-split • Holding: 200 shares • Basis: $25 per share • Total Basis: $5,000 • Note: Total basis remains unchanged (and is unaffected by fluctuations in market price)

  13. Advent Software Issuer Statement Issuer:Name: Advent Software, Inc. Taxpayer ID: 94-2901952 Contact: Investor Relations Department Address: 600 Townsend Street, San Francisco, CA 94103 E-mail: InvestorRelations@advent.com Telephone: 415-645-1000 Security:CUSIP/CINS: 007974108 Security Tax Classification: Common stock Ticker: [NASDAQ: ADVS] Corporate Action:Type: 2-1 Stock split Pay date: 1-18-2011 Record date: 1-3-2011 Effect on Basis: Nontaxable transaction. Split resulted in allocation of existing basis in common held equally between existing share and share received in dividend. IRC Section(s): 305(a) and 307(a)

  14. Comm Bancorp Merger Into FNB Corp. • Per share Comm Bancorp, Inc. common:  • 3.4545 shares F.N.B. Corp. (Fla) common  • AND  • $10 cash.  • Cash paid for fractions. • Exchange of Comm Bancorp, Inc. common for F.N.B. Corp. (Fla.) common and cash generally results in gain but no loss recognized. Capital gain recognized, subject to Sec. 302, equal to lesser of (a) amount of cash received (excluding cash for fractions) or (b) amount, if any, by which sum of cash received (excluding cash for fractions) and fair market value of F.N.B. Corp. common received (including fractional shares deemed received) as of effective time of merger exceeds basis of Comm Bancorp shares exchanged. For this purpose, calculate gain or loss separately for each identifiable block of common.  • Aggregate basis in F.N.B. Corp common received generally equals aggregate basis in Comm Bancorp common surrendered, (1) increased by amount of taxable gain, if any, recognized in merger (including any gain treated as dividend but excluding any gain or loss resulting from deemed receipt and sale of fractions), and (2) decreased by amount of any cash received (excluding any cash received for fractions and any basis allocated to fractions deemed received and sold). Holding period for F.N.B. common received (including fractional shares deemed received and sold) generally includes holding period for Comm Bancorp common surrendered.  • Cash received in lieu of fractional share: Holder treated as having received fractional share in merger and then having exchanged fractional share for cash, generally resulting in recognition of capital gain or loss, subject to Sec. 302, equal to difference between basis allocable to fraction and amount of cash received.

  15. FNB Corp Issuer Statement • Issuer:Name: F.N.B. Corp Taxpayer ID: 25-1255406 Contact: Shareholder Services Coordinator Address: One F.N.B. Boulevard, Hermitage, PA 16148 E-mail Address: shareholderservices@fnb-corp.com Telephone: 724-983-4944 • Security:Security Tax Classification: Common stock Ticker: [NYSE: FNB] Market Value: $9.82 Valuation Date: 12-31-2011 [sic] closing price • Corporate Action:Type: Merger Merger effective date: 1-1-2011 Effect on Basis: Basis of F.N.B. Corp. common received equals holder's basis in Comm Bancorp, Inc. common surrendered, increased by taxable gain, if any recognized in merger (excluding any gain or loss resulting from deemed receipt and sale of fractional shares) and decreased by amount of (i) any cash received (excluding cash received in lieu of fractional share) and (ii) basis allocated to fractional shares, if any. IRC Section: 354, 356, 358, 368(a) and 1221 Taxable Year: 2011 Recognizable Loss: No

  16. Comm Bancorp Basis Adjustments • Lot 1: 100 Comm shares, basis $5,000 ($50 per share) • Receive 345 shares FNB common (FMV $10 per share): $3,450, plus • $1,000 cash, plus • $4.50 cash for fractions • Aggregate value of consideration received: $4,454.50 • Gain/loss: $545.50 loss cannot be recognized at time of merger • Basis of FNB common received equals $4,000 ($11.60 per share) • Lot 2: 100 Comm shares basis $4,000 ($40 per share) • Receive 345 shares FNB common (FMV $1O per share): $3,450, plus • $1,000 cash, plus • $4.50 cash for fractions • Aggregate value of consideration received: $4,454.50 • Gain/loss: $454.50 gain recognized • Basis of FNB common received equals $3450.00 ($10.00 per share) • See attached worksheets for details

  17. Tracking Basis Adjustments • Cost basis reporting law requires brokers to report adjusted basis of covered securities • Corporate actions are main cause of change in basis of stock • Not all corporate actions cause a change in basis • Brokers need to know when a change in basis is required • Therefore: Compliance with cost basis reporting law requires Accurate tax consequences of all corporate actions!

  18. Sources Of Taxability For Corporate Actions • Vendors • Few vendors with strong tax expertise • SEC filings • Can be hard to find, long and legalistic • Foreign companies may not be subject to SEC rules • Company websites and press releases • Larger companies may post SEC filings and similar documents • Smaller companies are less likely to post tax information • Issuer Statements • Not a panacea for tracking taxability

  19. Drawbacks Of Issuer Statements • Only required if corporate action affects basis of security • Cash dividends? • Nontaxable mergers? • 45-day filing period • Do not have to be made publicly available • Posting to company website is optional • Less likely to be available from non-US issuers • May be as long and confusing as SEC filing

  20. Issuer Statements So Far • 25 issuer statements YTD • 13 issuer statements by Canadian firms, including for • Dividend reinvestment plan • Annual performance award • Restricted stock bonus plan • Over 400 distributions YTD • Over 100 of them nontaxable • IRS Notice suspended penalties for missed deadlines in 2011, but only if issuers file or post by January 17, 2012 • Conclusion • Many issuers may not know or understand their obligations • We may have a flood a issuer statements in January

  21. Summary • About 1 million corporate actions per year • Investment managers continue to struggle with risks posed by the corporate actions function • Challenges include • Identifying corporate actions • Understanding details and how they affect your position • Making timely elections • Risks increase with cross-border events (language/terminology issues) • Risks increase with complexity of the event • Regulatory issues affecting corporate actions • Cost basis reporting law • Redemption payments to NRA’s (subject to Sec. 302) • Other US and foreign withholding issues

  22. Thank You

  23. Back-up Slides

  24. Worksheet for Comm Bancorp Lot 1 • 100 Comm shares, basis $5,000 ($50 per share) • Receive 345 shares FNB common worth $3,450 ($10 per share), plus • $1,000 cash, plus • $4.50 cash (for 0.45 share), recognize $0.71 loss • Gain/loss: $545.50 loss cannot be recognized • Gain/loss: • Aggregate value of consideration received $4,454.50 • Basis of common surrendered: $5,000 • Loss realized ($545.50) cannot be recognized • Effect on Basis: Basis of F.N.B. Corp. common received equals holder's basis in Comm Bancorp, Inc. common surrendered (5000), increased by taxable gain (0), if any recognized in merger (excluding any gain or loss resulting from deemed receipt and sale of fractional shares) and decreased by amount of (i) any cash received (1000) (excluding cash received in lieu of fractional share) and (ii) basis allocated to fractional shares, if any. • Basis of 345.45 shares = $4000 ($11.60 per share) • Basis of 345 shares = $3994.79 ($11.60 per share) • Basis of 0.45 fractional share = $5.22

  25. Worksheet for Comm Bancorp Lot 2 • 100 Comm shares, basis $4,000 ($40 per share) • Receive 345 shares FNB common worth $3,450 ($10 per share), plus • $1,000 cash, plus • $4.50 cash (for 0.45 share), no gain or loss recognized • Gain/loss: $454.50 gain recognized • Gain/loss: • Aggregate value of consideration received $4,454.50 • Basis of common surrendered: $4,000 • Gain realized ($454.50) is less than cash received ($1,000) • Effect on Basis: Basis of F.N.B. Corp. common received equals holder's basis in Comm Bancorp, Inc. common surrendered (4000), increased by taxable gain (454.50), if any recognized in merger (excluding any gain or loss resulting from deemed receipt and sale of fractional shares) and decreased by amount of (i) any cash received (1000) (excluding cash received in lieu of fractional share) and (ii) basis allocated to fractional shares, if any. • Basis of 345.45 shares = $ 3454.50 ($10 per share) • Basis of 345 shares = $ 3450 ($10 per share) • Basis of 0.45 fractional share = $4.50

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