4.4 A major operative clause which uses the definition of “Event” is the first part of the covenant: the Covenantors are primarily liable for Taxation resulting from an Event occurring on or before Completion. So wide is this statement that it then needs to be narrowed by reference to amounts already paid by the Company or for which provision is made prior to Completion. 4.5 The second paragraph in the tax covenant text above has become an almost ubiquitous feature of tax covenants, but its inclusion is often poorly understood. It is important that any such “straddle transaction” clause is constrained with limitations: otherwise a sales order taken before Completion but delivered and invoiced after Completion would fall within this clause. The following wording can sometimes be included in a first draft of the tax covenant: “References to an Event occurring on or before Completion shall be deemed to include a series or combination of Events, the first of which occurred on or before Completion and the second of which occurred after Completion” 4.7 It is extremely difficult to identify any possible transactions which might require the protection of the straddle transaction clause. The common response to a challenge in respect of this clause is a mystical smile and explanation that it is now a standard feature of tax covenants. We are pleased to see that some more progressive firms are not including this clause in their standard precedents. If the concern is stamp duty it is our view that the protection required can be better focused. There is also a growing recognition that stamp duty needs to be treated differently within a tax covenant in any event. 4.8 An alternative to this clause is to define the concern as relating to any matter where the profit or gain is recognised before Completion but the tax expense does not get recognised until after Completion. This should not occur in respect of transactions going through the profit and loss account under the proper application of normal accounting principles. As a clause it therefore has much to recommend it as a protection for the Buyer. However, this drafting can have wider implications than might be imagined at first sight: if a property in fixed assets has been revalued it could be argued that this results in the gain being recognised before Completion. If the property is then sold after Completion, the above wording would result in a claim against the Covenantors for the tax which crystallised on disposal. 4.9 It is normal for the definition of “Event” to include exchange and Completion of the share transaction. This whole issue is very specifically addressed in the third paragraph above. We do not consider that this paragraph should be required if the definition of Event includes the share sale transaction, by virtue of covering transactions on or before Completion. 4.10 The reason for this concern needs to be explained: this involves an exploration of the various forms of “degrouping” charge that exist. This is covered in chapter 4. It is understandable that the Buyer is very concerned to be fully protected from any tax which crystallises as a result of the sales transaction itself. 4.6 It is our opinion that such a clause is far too wide, for the reasons given above, and should never be accepted.
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