Published August 17, 2026 · Last updated: August 2026 · Transaction Advisory & M&A Tax
Step-Up in Basis, Deal Structure, and Purchase Price Allocation: The Three Tax Levers That Decide What an M&A Deal Really Costs
In an acquisition, the headline price is only half the story. What the deal actually costs a buyer after tax is decided by three levers: how the deal is structured (asset versus stock, and the elections that can turn a stock purchase into an asset purchase for tax purposes), whether the buyer gets a step-up in basis, and how the purchase price is allocated across the assets acquired. Pull those levers correctly and a buyer captures years of additional depreciation and amortization deductions, often worth a meaningful percentage of the purchase price in present-value terms. Pull them carelessly and you pay more after tax for the same business.
For a buyer, the goal is almost always a step-up in basis and an allocation weighted toward assets that produce faster deductions. Sellers generally want the opposite. That tension gets negotiated at the letter-of-intent stage, not after closing, which is why the tax structuring conversation belongs at the front of the deal, alongside diligence. Here is how the three levers work.
- Three levers decide a deal's after-tax cost: structure (asset vs. stock), step-up in basis, and purchase price allocation under IRC §1060.
- An asset deal generally produces a step-up (new, higher basis to depreciate and amortize); a stock deal gives the buyer carryover basis and no step-up absent an election.
- The step-up is monetized two ways: 100% bonus depreciation on qualifying tangible property (permanent under IRC §168(k)) and 15-year §197 amortization of goodwill and intangibles.
- Even in a stock deal, a step-up can be achieved through a §338(h)(10) or §336(e) election, an F reorganization, or a §754 election for partnership targets.
- New Jersey decouples from federal bonus depreciation for CBT, so the year-one benefit of a step-up does not repeat on the NJ return. Model the NJ result separately.
Why Does Deal Structure Drive the Buyer's Tax Outcome?
Because structure determines the buyer's basis in what was bought, and basis determines future deductions.
In an asset purchase, the buyer's basis is derived from the purchase consideration, the cash and other consideration paid plus liabilities assumed, spread across the acquired assets under the rules described below. In most deals that produces a step-up: a new, higher basis that is depreciated and amortized going forward, generating deductions the buyer did not have before. The buyer also generally leaves the seller's historical liabilities behind, subject to state successor-liability and bulk-sale rules.
In a stock (or equity) purchase, the buyer generally takes the target's existing carryover basis in its assets, no step-up, and inherits the company as-is, tax history included. The buyer's basis in the stock equals what was paid, but that does not produce deductions until the stock is eventually sold.
That difference is the whole game. A step-up can be worth a large share of the price in present value, so buyers pay for it and structure the deal to get it wherever the facts allow.
What Is a Step-Up in Basis, and Why Do Buyers Pay for It?
A step-up in basis resets the tax basis of acquired assets from the seller's historical basis to an amount derived from what the buyer paid. Two mechanisms turn that into cash savings:
- Tangible personal property, equipment, furniture, fixtures, and qualifying land improvements, is depreciated, and under current law 100% bonus depreciation lets a buyer deduct qualifying property in year one. H.R. 1 (the One Big Beautiful Bill Act, July 2025) made 100% bonus permanent for property acquired after January 19, 2025 under IRC §168(k). Used property acquired from an unrelated party can qualify.
- Goodwill and other acquired §197 intangibles are amortized straight-line over 15 years under IRC §197, a deduction a buyer in a stock deal with carryover basis typically does not get at all.
Two caveats on that arithmetic. The 37% figure assumes an individual or pass-through buyer at the top marginal rate; a C corporation buyer is at the corporate rate, so the same deduction is worth substantially less. And state conformity can reduce the benefit further, see the New Jersey section below. Actual results depend on the allocation, the buyer's rate and income, and state treatment.
How Can a Buyer Get a Step-Up Even in a Stock Deal?
Sometimes a stock purchase is unavoidable, licenses, contracts, or permits that do not transfer cleanly in an asset sale. Several tools can deliver asset-sale tax treatment inside a stock or equity legal deal.
Section 338(h)(10)
A joint buyer-and-seller election to treat a stock sale as a deemed asset sale. The buyer must be a corporation making a qualified stock purchase, generally acquiring at least 80% of the total voting power and 80% of the total value of the target within a 12-month period, and the target must be an S corporation or a member of a consolidated or affiliated group. For an S corporation target, every shareholder must join the election, including shareholders who are not selling. That last requirement is where these deals most often break down.
Section 336(e)
Produces similar deemed-asset-sale treatment but is made by the seller or target rather than jointly, under IRC §336(e), which makes it useful where a §338(h)(10) election is unavailable, for example where the buyer is not a corporation.
F Reorganization
A widely used technique for acquiring S corporation businesses: the target is reorganized tax-free under IRC §368(a)(1)(F), the operating company becomes a disregarded entity, and the buyer purchases LLC interests, achieving a step-up while readily accommodating rollover equity. In the lower-middle market, the F-reorg has become the common alternative to §338(h)(10), in part because it avoids the all-shareholder-consent problem.
§754 Election (Partnership / LLC Targets)
Where the target is a partnership or multi-member LLC, a §754 election allows a §743(b) basis adjustment that is specific to the transferee partner, it adjusts the buying partner's share of the basis of partnership property. It is not a universal restatement of inside basis for every partner, and the mechanics and allocations require care.
Which tool fits depends on the target's entity type, the shareholder or member composition, whether the seller wants rollover equity, and the seller-side tax cost. This is exactly the analysis to run before signing the LOI, as we cover in our guide to financial and tax due diligence.
The elections that create a step-up all have to be decided before the LOI locks the structure. We model the asset-vs-stock outcome, the right election for the target's entity type, and the after-tax result on both the federal and New Jersey returns, so the number you sign to is the number you actually pay.
Model your deal structure with a CPA →How Does Purchase Price Allocation Work, and Why Do Buyers and Sellers Fight Over It?
Once the deal is an asset deal, actual or deemed, IRC §1060 governs how the consideration is spread across the assets in an applicable asset acquisition, and that allocation directly determines each side's tax outcome. Both buyer and seller report the allocation on Form 8594, and the numbers must match. Inconsistent filings are an audit magnet.
Section 1060 uses the residual method. Consideration is allocated to seven asset classes in order, and with the exception of residual goodwill, an allocation to an asset generally cannot exceed its fair market value. Whatever consideration remains after Classes I through VI falls into Class VII.
- Class I: cash and general deposit accounts
- Class II: actively traded personal property, certificates of deposit, and foreign currency
- Class III: accounts receivable, debt instruments, and certain mark-to-market assets
- Class IV: inventory and property held primarily for sale to customers
- Class V: all other assets not in another class: equipment, furniture and fixtures, land, and buildings
- Class VI: §197 intangibles other than goodwill and going-concern value (customer lists, non-competes, licenses)
- Class VII: goodwill and going-concern value
Class V is not the "fast deduction" bucket. It is a catch-all that holds land (never depreciable) and buildings (27.5 or 39-year recovery) alongside the equipment that does qualify for bonus depreciation. What a buyer actually wants is more consideration on the bonus-eligible tangible personal property and land improvements inside Class V, and correspondingly less on land and building.
Buyers are not better off with "short-lived" intangibles. Class VI §197 intangibles amortize over 15 years, the same recovery period as Class VII goodwill, so the buyer is largely indifferent between the two. The Class VI versus Class VII fight is a seller-side issue: an allocation to a non-compete generally produces ordinary income to the seller, while goodwill generally produces capital gain.
| Allocation to... | Buyer's recovery | Seller's tax character | Who pushes for it |
|---|---|---|---|
| Inventory (Class IV) | Cost of goods sold as sold | Ordinary income | Buyer |
| Equipment / FF&E (Class V) | Bonus depreciation, potentially year one | §1245 recapture at ordinary rates to the extent of prior depreciation | Buyer |
| Land (Class V) | None, nondepreciable | Capital gain | Seller |
| Building (Class V) | 27.5 or 39 years | Capital gain plus unrecaptured §1250 gain | Seller |
| Non-compete (Class VI) | 15 years under §197 | Ordinary income | Buyer (marginally) |
| Goodwill (Class VII) | 15 years under §197 | Capital gain | Seller |
How each §1060 class cuts for each side. Buyer recovery for Class VI and Class VII is identical, so the real fight there is on the seller's side.
For the depreciation recapture that Class V equipment and buildings trigger on the seller's side, see our guide to depreciation recapture.
What's the Buyer-Seller Tension, and How Do You Bridge It?
The buyer's step-up benefit and the seller's recapture and ordinary-income cost come out of the same allocation. A sophisticated deal models both sides after tax and looks for the structure that maximizes total value, then splits the difference through price. Common bridges: a modest price gross-up to compensate a seller for accepting a §338(h)(10) election, rollover equity via an F-reorganization that defers part of the seller's gain, or an allocation both sides can defend with a supportable valuation. These are negotiable tax dollars, and the party that shows up with the modeling usually captures more of them.
How Does New Jersey Treat Step-Ups, Elections, and Allocations?
Two New Jersey rules change the picture, and out-of-state buyers routinely miss them.
New Jersey now recognizes the federal S-corporation election automatically. For privilege periods beginning on or after December 22, 2022, New Jersey eliminated the requirement to file a separate state S-election; a federal S corporation is treated as a New Jersey S corporation by default, subject to the state's procedural requirements and an available opt-out. This matters in deals involving S corporation targets and §338(h)(10) planning, but confirm the target's actual New Jersey status rather than assuming it, particularly for entities formed under the prior regime or that may have opted out.
And if you are buying the assets of a New Jersey business, plan for the NJ Bulk Sale Act: the buyer must deliver Form C-9600 and the contract of sale to the Division of Taxation at least 10 business days before closing, or risk liability for the seller's unpaid state taxes. We cover the procedure in our guide to financial and tax due diligence.
Frequently Asked Questions
Stephen Calvo, CPA
It means the buyer's tax basis in the acquired assets is derived from the purchase consideration rather than carrying over the seller's historical basis. That new basis is depreciated and amortized going forward, creating deductions the buyer did not previously have. A step-up is the main tax reason buyers prefer asset deals, or elections that produce asset-sale treatment. Because those deductions can be worth a large share of the price in present value, buyers actively structure deals to capture a step-up wherever the facts allow.
Nick Calvo, CPA
Buyers usually prefer an asset sale, because it produces a step-up in basis and generally leaves the seller's historical liabilities behind. The step-up generates future depreciation and amortization deductions a stock deal with carryover basis typically does not. Stock deals are sometimes unavoidable, though, when licenses, contracts, or permits do not transfer cleanly. In those cases, elections such as Section 338(h)(10) or Section 336(e), or an F reorganization, can deliver asset-sale tax treatment inside a stock or equity legal deal. The right answer comes from modeling both sides after tax.
Stephen Calvo, CPA
It is a joint buyer-and-seller election that treats a stock sale as a deemed asset sale for tax purposes, giving the buyer a step-up. The requirements are specific: the buyer must be a corporation making a qualified stock purchase, generally acquiring at least 80% of the target's voting power and value within a 12-month period, and the target must be an S corporation or a member of a consolidated or affiliated group. For an S corporation target, every shareholder must join the election, including non-selling shareholders, which is where these deals most often break down.
Nick Calvo, CPA
Under IRC Section 1060, the purchase consideration in an asset deal is allocated across seven asset classes using the residual method, and both buyer and seller must report the same allocation on Form 8594. The allocation determines the buyer's future deductions and the seller's tax character. Buyers want more consideration on bonus-eligible equipment, which can be deducted quickly, and sellers want more on goodwill and land, which produce capital gain. Inconsistent filings between the two sides are an audit magnet, so the allocation should be agreed in writing before closing.
Stephen Calvo, CPA
Because New Jersey decouples from federal bonus depreciation for Corporation Business Tax. The large year-one deduction from a step-up on equipment is substantially a federal benefit. For New Jersey CBT purposes, federal bonus depreciation is added back and the asset is depreciated under New Jersey's own rules, so the federal first-year result does not repeat on the state return. The after-tax value of a step-up on a New Jersey-heavy asset base is therefore meaningfully lower than a federal-only model implies, which out-of-state buyers routinely miss. Model the New Jersey result separately.
Nick Calvo, CPA
An F reorganization is a widely used technique for acquiring S corporation businesses. The target is reorganized tax-free under IRC Section 368(a)(1)(F), the operating company becomes a disregarded entity, and the buyer purchases LLC interests, achieving a step-up while readily accommodating rollover equity. In the lower-middle market it has become the common alternative to a Section 338(h)(10) election, in part because it avoids the requirement that every shareholder consent to the election, which is where 338(h)(10) deals often stall. Which tool fits depends on the target's entity type and the seller's goals.
Model the Deal Before You Sign the LOI
Step-up, structure, and allocation are negotiable tax dollars, and they are won at the letter-of-intent stage, not after closing. TC Advisors CPA models the asset-versus-stock decision, identifies the right election for the target's entity type, drafts a defensible Form 8594 allocation, and runs the result on both the federal and New Jersey returns, including the NJ bonus-depreciation decoupling most models miss. You work directly with a partner who brings Big Four transaction experience. Our Hackensack office serves buyers and sellers across New Jersey and the New York metro.
Schedule a consultation →- Cornell Legal Information Institute — IRC §1060, special allocation rules for applicable asset acquisitions
- Cornell Legal Information Institute — IRC §197, amortization of goodwill and certain intangibles
- Cornell Legal Information Institute — IRC §168(k), bonus depreciation
- Cornell Legal Information Institute — IRC §338, certain stock purchases treated as asset acquisitions
- Cornell Legal Information Institute — IRC §336(e), certain dispositions of subsidiary stock
- Cornell Legal Information Institute — IRC §368(a)(1)(F), reorganizations
- Cornell Legal Information Institute — IRC §754, partnership basis adjustment election
- New Jersey Division of Taxation — New Jersey S Corporation Procedural Changes (P.L. 2022, c. 133)
Related: Financial and Tax Due Diligence When Buying a Business and Depreciation Recapture on a Rental Sale.
