Merger agreements typically prescribe the parties that will bear the costs (e.g., legal, printing, proxy solicitation) of a merger and the proportions each will bear. It is not uncommon for the acquiring and acquired funds to share jointly in these costs, or for the fund sponsor to bear part or all of them. For a merger to qualify for tax-free treatment, each fund must bear its own merger costs. The merger agreement should be consulted to determine the cost-sharing arrangement that has been agreed to. If material, the arrangement should be disclosed in the financial statements pursuant to ASC 850-10-50 regarding related party transactions, as part of the discussion of the acquisition.

Investment company accounting generally does not permit the capitalization and amortization of merger costs, but instead requires that they be expensed by both acquirer and acquiree. In practice, once shareholder approval for the merger is obtained, open-end funds either expense all the acquisition costs on the merger date or amortize them over the period from the approval date to the consummation date. The latter method is also intended to make sure shareholders who redeem in the interim period (and who presumably approved the merger) do not escape at least some of the costs of their action by redeeming their shares before the merger costs are expensed, and forcing the shareholders who remain to bear the entire decline in NAV caused by expensing the costs. Since closed-end fund shares are not redeemable, there should be no need to adopt the latter approach, but we can nonetheless accept it.

The tax status of merger costs borne by the acquired fund should be evaluated and resolved before the consummation date. Many fund groups will deduct the costs from net investment income, but to the extent they are not deductible (and many are likely not to be), the fund may need to make additional distributions to preserve its tax qualification.