important that the Seller resists the inclusion of a grossing up clause: the insistence of the Buyer will have increased the potential liabilities of the Seller if a grossing up clause is included. It is difficult to see what benefit any Buyer would gain from such insistence, apart from the protection of its capital gains tax base cost. It is our view that it is unreasonable for any Buyer to expect such protection: if there are claims under the warranties or the Tax Covenant, then the commercial reality is that the Buyer has paid less. There is therefore logic that his base cost for capital gains tax purposes should be reduced. 2.4 If the contracts allow for the rights of the Buyer to be assigned to another company in the same group as the Buyer, or to a third party, then any payments then made by the Sellers under the Tax Covenant are likely to be taxable on the recipient, as the receipt of a contractual right. It is therefore relatively standard that the grossing up clause is stated not to apply in the event that such an assignment is made. Alternatively the tax covenant will state that the liabilities of the Sellers will not be increased as a result of any such assignment. 2.5 As the Company is, almost invariably, not a party to the tax covenant, it no longer represents a deed of indemnity, as it is the Company which is liable to pay any tax which may lead to a claim being made. The document is therefore now a covenant to pay, usually made under deed, whereby the Covenantors agree to pay to the Buyer an amount equal to the amount of the tax in question. As mentioned earlier, there is now no reason why this document should be prepared as a deed. 2.6 There is a further modest legal point: as the Company is generally not a party to the tax covenant, any actions required post-completion cannot be required from the Company: instead the Buyer undertakes to procure that the Company will take the action required. This does not bring any major legal consequences, provided that the Buyer has acquired at least a simple majority, and we do not consider that this should be the cause of any resistance. 2.7 If there is a desire for the Company to be a party to the tax covenant, this is not, in itself, a problem. The Company can be a party to the tax covenant in respect of procedural matters, provided that it has no right to any of the proceeds from claims under the tax covenant. It is our view that matters are put beyond doubt if the Company is not a party to the tax covenant.
3Tax Position of the Seller
3.1 The sale of shares by individual Sellers will be subject to capital gains tax: the tax will be computed by reference to the net proceeds, with the original base cost of the shares being deducted in order to compute the gain. This is subject to the treatment of consideration in the form of loan notes, which is dealt with below.
3.2 The same basic rules apply to a corporate Seller, apart from two material variations:
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