Dell’s current $67 billion attempt to merge with EMC has one big hurdle to overcome. The computer company’s unusual proposal could create a huge tax bill, which could stop the deal in its tracks.

As reportedly previously by the Inquisitr, Dell Inc. announced the merger with data storage company EMC last month. In a deal worth $67 billion, the combined companies will be the biggest provider of PCs, servers, software, and storage equipment on the planet.

According to Michael Dell, “The acquisition of EMC, the world’s largest provider of data storage systems will create the world’s largest privately controlled, integrated technology company in the $2 trillion information technology market.”

[Photo by Kayana Szymczak/Getty Images]

In a Re/code report, people close to Dell say the deal could create a $9 billion tax bill once the IRS looks at the details. However, Dell is using a brand new tactic to dodge such a liability.

The Dell-EMC Merger Has Some Complications

In 2003, EMC bought software company VMware. The value of VMware has since risen tens of billions of dollars. Currently, EMC owns about 81 percent of VMware, while the remaining 19 percent of shares actively trade on the New York Stock Exchange.

To complete the EMC merger, Dell is offering EMC stockholders $33.15 a share for the company, of which they will receive $24.05 per share in cash. To pay the remaining $9.10, Dell has proposed to use a new type of stock tied to VMware.

Dell intends to use a popular financial device known as a tracking stock. Tracking stocks are used when shareholders want to invest in a certain business unit of a large publicly traded company, but the parent company does not give up ownership or voting control.

By using the tracking stock, Dell intends to offset the amount of debt being acquired through the deal and avoid a huge $9 billion tax liability. However, they might not get the anticipated tax treatment needed for final approval of the merger.

As Dell does not own VMware, the tracking stock opens up the door for IRS scrutiny. In this case, the stock will not be used for a corporate spin-off or distribution of shares, both of which are taxable events. However, EMC shareholders will be responsible for taxes on the cash received and the value of the tracking shares.

The current tax code prohibits companies from using spinoffs or share distributions to pay for acquisitions. Yet, this is what Dell may be trying to do.

[Photo by Win McNamee/Getty Images]

Once the IRS reviews the merger details, it may rule the tracking stock exchange is a taxable event. Should that happen, Dell would have to look at other avenues for financing the deal, including borrowing more money to pay EMC shareholders the full value of the company.

Some have speculated there is verbiage in the Dell-EMC merger agreement that says should the IRS deem the shares taxable, the deal won’t go through. Reuters is reporting, however, no such verbiage exists.

Tax attorney Michael Solomon says the deal has some complications, but Dell could win IRS approval.

“The deal raises a factual question as to whether or not the EMC shareholders are basically getting stock in Dell as the result of this merger. If yes, then I expect the IRS would approve it. If it’s deemed to be a constructive distribution of the VMware subsidiary, in that case the deal fails. … This is taking things right up to the edge.”

People familiar with the deal have differing opinions on how much of a problem the tax question will be. A tracking stock has never been used in such a way so the IRS may be hesitant to agree with Dell.

While others think the tax attorneys directly involved with Dell-EMC agreement would have foreseen any potential problems and advised against Dell proposing such a deal.

Either way, the use of tracking stocks in future acquisition deals will be changed forever.

Dell CEO Michael Dell [Photo by Justin Sullivan/Getty Images]

Since 2013, Dell Inc. has been a privately-held company since it was bought out by founder Michael Dell and private equity firm Silver Lake Partners.

If the Dell-EMC deal goes through, the company will continue to operate under the leadership of Dell and Silver Lake executives. VMware shareholders will also have some influence on the new company’s direction.

Sources indicate that Dell highly anticipates the IRS will consider the new VMware tracking stocks as a tax-free exchange. Yet, neither Dell nor EMC will comment on the expected outcome.

Should the Dell-EMC merger deal happen, it will be the biggest tech acquisition ever.

[Photo by Justin Sullivan/Getty Images]