IRS grants late election for the success-based fee safe harbor

Plain-English summary

A corporation incurred success-based fees in connection with two stock
acquisition transactions. Its tax professional prepared the return using the
safe harbor in Rev. Proc. 2011-29, deducting 70 percent of the fees and
capitalizing 30 percent. The required election statement was inadvertently
omitted from the electronically filed return, and the omission was discovered
shortly afterward. The IRS found that the taxpayer acted reasonably and in good
faith and that relief would not prejudice the government's interests. It granted
60 days to file a statement identifying the transaction and the amounts deducted
and capitalized.

Ruling snapshot

• Question: May the taxpayer file a late Rev. Proc. 2011-29 safe harbor
  election for allocating success-based transaction fees?
• Outcome: Approved, with a 60-day extension
• Key authorities: IRC § 263(a); Treas. Reg. §§ 1.263(a)-5,
  301.9100-1, and 301.9100-3; Rev. Proc. 2011-29

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 202041003 Third Party Communication: None
Release Date: 10/9/2020 Date of Communication: Not Applicable
Index Number: 9100.00-00, 263.15-03
Person To Contact:
---------------------------- ------------------------------, ID No. ------------
----------------------------------------------------- -----------------
------------------- Telephone Number:
-------------------------------- --------------------
Refer Reply To:
CC:ITA:B2
PLR-109053-20
Date:
July 17, 2020

Taxpayer = --------------------------------------------------
----------------
Buyer = --------------------------------------------------
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Business = --------------------------------------------------
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------------
Tax Professional = ------------------
Date1 ---------------------
Date2 = -------------------
Date3 = ----------------------
Date4 = -------------------
Date5 = ----------------------
Year1 = --------------------------------------------------
--------------------------
x = ---------------

Dear ----------------:

    This is in response to a letter dated Date1, requesting an extension of time under

§§ 301.9100-1 and 301.9100-3 of the Procedure and Administration Regulations to
make a safe harbor election under Rev. Proc. 2011-29, 2011-1 C.B. 746. This letter
ruling is being issued electronically in accordance with Rev. Proc. 2020-29, 2020-21
I.R.B. 859. A paper copy will not be mailed to Taxpayer.

FACTS AND REPRESENTATIONS

    Taxpayer is a corporation. Taxpayer is in the business of Business.

   On Date2, pursuant to a securities purchase agreement, Taxpayer acquired a 65

percent interest in four business entities. Taxpayer created a wholly owned subsidiary
and assigned its purchase rights in the four entities to this subsidiary. On Date3, the
four entities merged with and into the subsidiary with the subsidiary surviving. On
Date4, in a separate transaction, Buyer acquired 65 percent of the issued and
outstanding equity of Taxpayer from existing stockholders.

   Taxpayer treated these transactions as stock acquisitions. Taxpayer represents

that the transactions are covered transactions as defined in § 1.263(a)-5(e)(3) of the
Income Tax Regulations. Taxpayer incurred $x of transaction costs Tax Professional
determined were success-based fees eligible for the safe harbor treatment afforded by
Rev. Proc. 2011-29.

   Tax Professional prepared Taxpayer’s federal income tax return for Year1.

Taxpayer’s Year1 return reflected the deduction of 70 percent of $x and the
capitalization of 30 percent of $x but the election statement required by section 4.01(3)
of Rev. Proc. 2011-29 inadvertently was not attached to the return when it was
electronically filed on Date5. The failure to attach the election statement to the return
was discovered shortly thereafter.

LAW AND ANALYSIS

    Section 263(a)(1) of the Internal Revenue Code generally provides that no

deduction shall be allowed for any amount paid out for property having a useful life
substantially beyond the taxable year. In the case of an acquisition or reorganization of
a business entity, costs that are incurred in the process of acquisition and that produce
significant long-term benefits must be capitalized. See INDOPCO, Inc. v.
Commissioner, 503 U.S. 79, 89-90 (1992); Woodward v. Commissioner, 397 U.S. 572,
575-76 (1970).

     Under § 1.263(a)-5 of the Income Tax Regulations a taxpayer must capitalize an

amount paid to facilitate a business acquisition or reorganization transaction described
in § 1.263(a)-5(a). An amount is paid to facilitate a transaction described in § 1.263(a)-
5(a) if the amount is paid in the process of investigating or otherwise pursuing the
transaction. Whether an amount is paid in the process of investigating or otherwise
pursuing the transaction is determined based on all of the facts and circumstances.
See § 1.263(a)-5(b)(1).

    Section 1.263(a)-5(f) provides that an amount that is contingent on the

successful closing of a transaction described in § 1.263(a)-5(a) (success-based fee) is
presumed to facilitate the transaction, and thus must be capitalized. A taxpayer may
rebut the presumption by maintaining sufficient documentation to establish that a portion
of the fee is allocable to activities that do not facilitate the transaction, and thus may be
deductible.

     A taxpayer’s method for determining the portion of a success-based fee tha

facilitates a transaction and the portion that does not facilitate the transaction is a
method of accounting under § 446. See section 2.04 of Rev. Proc. 2011-29.

   Because the treatment of success-based fees was a continuing subject of

controversy between taxpayers and the Internal Revenue Service (Service), the Service
published Rev. Proc. 2011-29. Rev. Proc. 2011-29 provides a safe harbor method of
accounting for allocating success-based fees paid in business acquisitions or
reorganizations described in § 1.263(a)-5(e)(3). In lieu of maintaining the
documentation required by § 1.263(a)-5(f), this safe harbor permits electing taxpayers to
treat 70 percent of the success-based fee as an amount that does not facilitate the
transaction, i.e., an amount that can be deducted. The remaining portion of the fee
must be capitalized as an amount that facilitates the transaction.

     Section 4.01 of Rev. Proc. 2011-29 allows a taxpayer to make a safe harbor

election with respect to success-based fees. Section 4.01 provides that the Service will
not challenge a taxpayer’s allocation of success-based fees between activities tha
facilitate a transaction described in § 1.263(a)-5(e)(3) and activities that do not facilitate
the transaction if the taxpayer does three things. First, the taxpayer must treat 70
percent of the amount of the success-based fee as an amount that does not facilitate
the transaction. Second, the taxpayer must capitalize the remaining amount of the
success-based fee as an amount that does facilitate the transaction. Third, the
taxpayer must attach a statement to its original federal income tax return for the taxable
year the success-based fee is paid or incurred. This statement should: (i) state that the
taxpayer is electing the safe harbor; (ii) identify the transaction; and (iii) state the
success-based fee amounts that are deducted and capitalized. Section 4.03 states tha
the election does not constitute a change in method of accounting for success-based
fees generally, and an adjustment under § 481(a) is neither permitted or required.

   Sections 301.9100-1 through 301.9100-3 provide the standards the

Commissioner will use to determine whether to grant an extension of time to make an
election. Section 301.9100-2 provides automatic extensions of time for making certain
elections. Section 301.9100-3 provides extensions of time for making elections that do
not meet the requirements of § 301.9100-2.

   Section 301.9100-1(c) provides that the Commissioner has discretion to grant a

reasonable extension of time under the rules set forth in §§ 301.9100-2 and 301.9100-3
to make certain regulatory elections. Section 301.9100-1(b) defines a “regulatory
election” as an election whose due date is prescribed by a regulation published in the
Federal Register, or a revenue ruling, revenue procedure, notice, or announcemen
published in the Internal Revenue Bulletin.

   Section 301.9100-3(a) provides that requests for extensions of time for regulatory

elections under § 301.9100-3 will be granted when the taxpayer provides evidence to
establish to the satisfaction of the Commissioner that the taxpayer acted reasonably

and in good faith, and that granting relief will not prejudice the interests of the
Government.

    Section 301.9100-3(b)(1) provides that, in general, a taxpayer is deemed to have

acted reasonably and in good faith if the taxpayer: (i) requests relief before the failure
to make the regulatory election is discovered by the Service; (ii) failed to make the
election because of intervening events beyond the taxpayer’s control; (iii) failed to make
the election because, after exercising reasonable diligence, the taxpayer was unaware
of the necessity for the election; (iv) reasonably relied on the written advice of the
Service; or (v) reasonably relied on a qualified tax professional, and the tax professional
failed to make, or advise the taxpayer to make, the election.

   Section 301.9100-3(b)(3) provides that a taxpayer is deemed to have not acted

reasonably and in good faith if the taxpayer: (i) seeks to alter a return position for which
an accuracy-related penalty has been or could be imposed under § 6662 at the time the
taxpayer requests relief and the new position requires or permits a regulatory election
for which relief is requested; (ii) was informed in all material respects of the required
election and related tax consequences but chose not to file the election; or (iii) uses
hindsight in requesting relief.

    Section 301.9100-3(c)(1) provides that the interests of the Government are

prejudiced if granting relief would result in the taxpayer having a lower tax liability in the
aggregate for all taxable years affected by the election than the taxpayer would have
had if the election had been timely made. The interests of the Government are
ordinarily prejudiced if the taxable year in which the regulatory election should have
been made, or any taxable years that would have been affected by the election had i
been timely made, are closed by the period of limitations on assessment under
§ 6501(a) before the taxpayer’s receipt of a ruling granting relief under this section.

   Section 301.9100-3(c)(2) provides special rules for accounting method regulatory

elections. Section 301.9100-3(c)(2) provides that the interests of the Government are
deemed prejudiced, except in unusual or compelling circumstances, if the accounting
method regulatory election for which relief is requested is subject to the advance
consent procedures for method changes, requires a § 481(a) adjustment, would permi
a change from an impermissible method of accounting that is an issue under
consideration by examination or any other setting, or provides a more favorable method
of accounting if the election is made by a certain date or taxable year.

  Taxpayer’s election is a regulatory election as defined in § 301.9100-1(b)

because the due date of the election is prescribed in section 4.01(3) of Rev. Proc. 2011-

29. The Commissioner has the authority under §§ 301.9100-1 and 301.9100-3 to gran
    an extension of time to file a regulatory election.

CONCLUSION

   Based upon our analysis of the facts and representations provided, Taxpayer

acted reasonably and in good faith, and granting relief will not prejudice the interests of
the Government. Therefore, the requirements of §§ 301.9100-1 and 301.9100-3 have
been met.

   Taxpayer is granted an extension of 60 days from the date of this ruling to file the

election statement required by section 4.01(3) of Rev. Proc. 2011-29. The election
statement should state that Taxpayer is electing the safe harbor, identify the
transaction, and state that 70 percent of $x in success-based fee amounts were
deducted and 30 percent of $x in success-based fee amounts were capitalized.

CAVEATS

  The rulings contained in this letter are based on information and representations

submitted by Taxpayer and accompanied by a penalty of perjury statement executed by
appropriate parties. While this office has not verified any of the material submitted in
support of the request for rulings, it is subject to verification on examination.

   Except as expressly provided herein, no opinion is expressed or implied

concerning the tax consequences of any aspect of any transaction or item discussed or
referenced in this letter. In particular, no opinion is expressed as to whether Taxpayer
properly included the correct costs as its success-based fee subject to the election, or
whether the transactions described herein are within the scope of Rev. Proc. 2011-29.

   A copy of this letter must be attached to any income tax return to which it is

relevant. Alternatively, if Taxpayer files its return electronically, Taxpayer may satisfy
this requirement by attaching a statement to its return that provides the date and control
number of the letter ruling.

    In accordance with the provisions of the power of attorney currently on file with

this office, copies of this letter are being sent to your authorized representatives. We
are also sending a copy of this letter to the appropriate operating division director.
Enclosed is a copy of the letter ruling showing the deletions proposed to be made in the
letter ruling when it is disclosed under § 6110.

   This ruling is directed only to Taxpayer. Section 6110(k)(3) provides that it may

not be used or cited as precedent.

                                  Sincerely,

                                  Amy S. Wei

                                  Amy S. Wei
                                  Senior Counsel, Branch 2
                                  (Income Tax & Accounting)

Enclosure: Copy for § 6110 purposes

cc: