The Tax Side of an IPO: Provision, NOLs, and Structure

The tax line in an IPO company's financial statements often gets less attention than revenue or equity, until the auditor asks for the provision workpapers. Audited financial statements need a full income tax provision under ASC 740, and an IPO is also the moment when net operating losses can be limited and the structure becomes harder to change. Here is what to plan for.

What the income tax provision includes

Under ASC 740, the provision is more than the tax due on this year's return. It includes:

• Current tax: federal, state, and foreign income tax payable for the period
• Deferred tax: the future tax effects of differences between book and tax values, and of losses and credits carried forward
• Valuation allowance: a reduction of deferred tax assets when it is more likely than not that they won't be realized
• Uncertain tax positions: positions that might not be sustained if examined, measured and documented
• The footnote: the rate reconciliation, the components of deferred taxes, and other required disclosures

Public companies update the provision every quarter, so the process has to be repeatable.

Why a loss-making company still needs one

Many pre-IPO companies have never paid federal income tax. They still need a provision, because the deferred tax assets from their losses, and the valuation allowance against them, are part of the financial statements, along with state minimum taxes, foreign taxes, and the footnote disclosures.

Section 382: when ownership changes limit your NOLs

Under Section 382 of the Internal Revenue Code, an ownership change occurs when shareholders who own 5% or more of the company increase their combined ownership by more than 50 percentage points over a rolling testing period, generally three years. After an ownership change, the amount of pre-change net operating losses and certain credits the company can use each year is limited.

Venture rounds, secondary sales, and the IPO itself can all contribute to an ownership change. A Section 382 study tracks ownership shifts over time and estimates any annual limitation. The result affects the deferred tax assets in the historical financial statements and the company's tax forecast.

New income tax disclosures

The FASB's Accounting Standards Update 2023-09 expanded income tax disclosures for public business entities for annual periods beginning after December 15, 2024. It requires a more detailed rate reconciliation, in both percentages and amounts, and income taxes paid broken down by federal, state, and foreign jurisdictions, with individual jurisdictions disclosed when they reach 5% of the total. Private-company footnotes usually have to be rebuilt to meet these requirements for the filing.

Structure decisions before the listing

• Entity form: LLCs and partnerships generally convert to corporations before an IPO; the timing and method affect taxes.
• Holding company: inserting a holding company, often for a company listing from abroad, needs to be modeled before the legal work is done.
• State and foreign exposure: remote employees, sales into new states, and foreign operations can create filing obligations that diligence will find.
• Research credits and research costs: the treatment on the return and in the provision should agree.

Founders' personal tax

Lock-up periods, option exercises, and stock sales after the offering create personal tax decisions. Planning them before the IPO, while choices are still open, usually works better than reacting afterward. Qualified small business stock rules can matter for early shareholders; confirm the current requirements with your tax advisor before relying on them.

Our IPO Tax Provision & Structuring service prepares the provision and the pre-listing review, and our personal tax strategy team handles founders' planning. Related reading: after the IPO: the public-company close.

Frequently asked questions

When should we commission a Section 382 study?

Before the IPO, and ideally before the next large financing, so the result can be reflected in the financial statements and the forecast.

Can the same firm prepare our tax return and the provision?

Yes, and it often helps the two reconcile. The firm should not be your financial statement auditor.

Does the IPO itself trigger an ownership change?

It can contribute to one, depending on how ownership has already shifted during the testing period. A Section 382 study answers the question for your facts.

General information only, not tax, accounting, or legal advice.