In the case of AbbVie Inc. v. Commissioner, 164 T.C. No. 10 (June 17, 2025), the Tax Court sided with the taxpayer in its dispute with the IRS over the character of a $1.6 billion merger termination fee (the “break fee”). AbbVie, Inc. (“AbbVie”) and Shire plc (“Shire”) entered into a “cooperation agreement,” which was essentially a contract for services that each company would provide to facilitate the merger, with AbbVie agreeing to make a substantial payment to Shire if it was unable to complete the merger with Shire. AbbVie paid the break fee because its board of directors revoked a prior recommendation to the shareholders of AbbVie to merge with Shire, due to the IRS issuing anti-inversion guidance under Notice 2014-52 that “introduced an unacceptable level of uncertainty to the transaction.” The revocation occurred prior to the shareholders of either company approving the merger. The IRS challenged the ordinary loss deduction claimed by AbbVie on its 2014 tax return and recharacterized the loss as capital.

The Tax Court analyzed the application of §1234A(1) (which, according to the §1234A committee reports, was enacted to make certain “that gains and losses from transactions economically equivalent to the sale or exchange of a capital asset obtain similar treatment”) to the facts of this case and determined the character of the break fee was ordinary. In order for §1234A(1) to apply and for the break fee to be considered a capital loss, a loss must be attributable to the cancellation, lapse, expiration, or other termination of a right or obligation, with respect to property that is a capital asset in the hands of the taxpayer (or would be a capital asset upon its acquisition by the taxpayer).

Even though AbbVie had a myriad of rights and obligations under the cooperation agreement, the Tax Court considered the “essence of the agreement taken as a whole” and held that AbbVie’s rights and obligations under the cooperation agreement were not “with respect to property,” but rather the cooperation agreement was a services contract that required AbbVie to recommend the merger to its shareholders and use its best efforts to secure shareholder approval of the merger. The break fee was attributable to AbbVie’s board’s failure to recommend the merger, not AbbVie’s failure to complete the transaction – the cooperation agreement was not an agreement to buy, sell, or transfer property. It was merely “an aspirational arrangement, with each party agreeing to do everything it could to facilitate a potential combination.”

The AbbVie case does not automatically treat all transaction break fees as an ordinary loss. Each situation requires an analysis of §1234A(1) to determine if an ordinary loss position exists.

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