Financial services company Perpetual (ASX:PPT) provides an update on its proposed agreement with global investment firm Kohlberg Kravis Roberts & Co. (KKR), stating that tax complications could reduce shareholders’ cash receipts and reduce Perpetual’s potential tax liability. It was revealed that the amount could increase from $493 million to $529 million. This includes a potential major tax liability of $488 million.

The KKR scheme, first announced on May 8, 2024, includes the sale of Perpetual’s wealth management and corporate trust divisions. The plan includes the creation of a holding company, “TopCo,” which will hold the assets of each division.

Disagreements about taxes

The issue stems from the Australian Taxation Office’s (ATO) position on how transactions should be taxed. The ATO recommended that section 45B of the Income Tax Assessment Act 1936 applied. This means that the cash proceeds from the sale of TopCo stock may be treated as assessable and equitable dividends and will be taxed at the rates applicable to each shareholder.

Compounding the problem is the possibility that the ATO may refuse to issue a binding award on the key anti-avoidance clause, Part IVA, and still seek to apply that section. Once Part IVA takes effect, Perpetual’s estimated principal tax liability will increase from the previous range of $106 million to $227 million to $488 million.

These tax changes mean that the estimated cash income for permanent shareholders under the KKR Plan will decrease from a range of $8.38 to $9.82 per share to a new range of $5.74 to $6.42 per share.

Perpetual expressed strong opposition to the ATO’s position. The company noted that a similar deal structure had been used in previous offers from two other potential bidders for Perpetual’s assets. Perpetual argued that these previous transactions, which involved demergers and sales of parent company shares, had been accepted by the ATO.

However, to challenge the ATO’s position, Perpetual would need to withhold sufficient funds from its cash proceeds to cover the tax liability claimed by the ATO. This process will likely be time consuming and uncertain.

Perpetual and KKR are currently “working to consider the potential implications for the transaction,” but the fate of the deal is still subject to several conditions being met.

Yesterday, Perpetual stock fell 8.4% to close at $20.07.