Accounting for insurance-related costs in a business combination
ARTICLE | November 17, 2023
Authored by RSM US LLP
Transaction costs incurred to effect a business combination should be accounted for separate from the business combination as an expense when incurred and when the related services have been received by the buyer. This is the case if the buyer is paying the service provider directly, as well as if the buyer arranges to have the seller or target pay the service providers, and in return, the buyer reimburses the seller for those payments through an increase in the consideration transferred in conjunction with the business combination. One common form of transaction cost the buyer in a business combination may incur is insurance costs for various matters related to the transaction, including for directors’ and officers’ liability as well as representations and warranties included in the acquisition agreement.
Directors’ and officers’ liability insurance may be obtained by a buyer to cover potential losses from litigation claims made against directors and officers of the acquiree for any actions that occurred prior to the acquisition date for which claims are made subsequent to the acquisition. Insurance for general representations and warranties made in a business combination may be obtained by a buyer to cover potential losses from incorrect representations or warranties made by a seller in the acquisition agreement. This insurance may be obtained in cases in which amounts are not held in escrow related to the seller satisfying general representations and warranties. As both of these types of insurance coverage are for events that either occurred prior to or as of the acquisition date, any costs should be expensed as incurred.
When insurance costs are shared between the buyer and the seller, consideration should be given to which party receives the primary benefit from the insurance to appropriately account for the costs. Questions that should be considered by the buyer in determining whether other insurance-related costs should be accounted for separate from the business combination include the following:
- Why did the buyer, target, sellers or other involved parties purchase the insurance?
- Who initiated the transaction?
- When was the transaction entered into?
The purpose of these questions is to determine which party or parties benefit from the insurance. None of these questions are individually determinative and the analysis performed to answer one question could very well overlap with the analysis performed to answer a different question. If the party that receives the primary benefit is considered to be the buyer or the combined entity, then it is most likely that the insurance-related costs should be accounted for separate from the business combination.
The expectation is that a comprehensive analysis of all the facts and circumstances should be performed to identify whether insurance related costs should be accounted for separate from the business combination. Due to the significant judgments that may be required in arriving at an appropriate conclusion about the accounting for shared costs, we recommend consultation with a subject matter expert.
For additional guidance on this topic and other issues that arise when accounting for a business combination, refer to our publication, A guide to accounting for business combinations.
Call us at +1 213.873.1700, email us at firstname.lastname@example.org or fill out the form below and we'll contact you to discuss your specific situation.
This article was written by RSM US LLP and originally appeared on 2023-11-17.
2022 RSM US LLP. All rights reserved.
RSM US Alliance provides its members with access to resources of RSM US LLP. RSM US Alliance member firms are separate and independent businesses and legal entities that are responsible for their own acts and omissions, and each is separate and independent from RSM US LLP. RSM US LLP is the U.S. member firm of RSM International, a global network of independent audit, tax, and consulting firms. Members of RSM US Alliance have access to RSM International resources through RSM US LLP but are not member firms of RSM International. Visit rsmus.com/about us for more information regarding RSM US LLP and RSM International. The RSM logo is used under license by RSM US LLP. RSM US Alliance products and services are proprietary to RSM US LLP.
Vasquez & Company LLP is a proud member of the RSM US Alliance, a premier affiliation of independent accounting and consulting firms in the United States. RSM US Alliance provides our firm with access to resources of RSM US LLP, the leading provider of audit, tax and consulting services focused on the middle market. RSM US LLP is a licensed CPA firm and the U.S. member of RSM International, a global network of independent audit, tax and consulting firms with more than 43,000 people in over 120 countries.
Our membership in RSM US Alliance has elevated our capabilities in the marketplace, helping to differentiate our firm from the competition while allowing us to maintain our independence and entrepreneurial culture. We have access to a valuable peer network of like-sized firms as well as a broad range of tools, expertise and technical resources.
For more information on how Vasquez & Company LLP can assist you, please call +1 213.873.1700.
Subscribe to receive important updates from our Insights and Resources.