Partnership receives 60 days to make a success-based-fee safe-harbor election

Plain-English summary

A partnership sought extra time to elect the Revenue Procedure 2011-29 safe harbor for a success-based advisory fee connected with its acquisition. The partnership intended to deduct 70 percent of the fee and capitalize the remaining 30 percent, but its accounting firm overlooked information identifying the fee as success-based and omitted the required election statement from the timely filed return. The IRS found that the partnership acted reasonably and in good faith and that relief would not prejudice the government. It gave the partnership 60 days to file the election statement. The ruling was limited to filing relief and did not decide whether the partnership qualified for the safe harbor, who paid the fee, or whether any part of the fee was deductible.

Ruling snapshot

• Question: May the partnership make the Revenue Procedure 2011-29 safe-harbor election after omitting the required statement from its timely filed return?
• Outcome: Approved, with 60 days to file the election statement
• Key authorities: IRC §§ 162, 263(a), 267(b), 6501(a), 6662, 707(b); Treas. Reg. §§ 1.263(a)-5, 301.9100-1, 301.9100-3; Rev. Proc. 2011-29

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 202443001 [Third Party Communication:
Release Date: 10/25/2024 Date of Communication: Month DD, YYYY]
Index Number: 9100.00-00
Person To Contact:
----------------------------- -----------------------, ID No. -----------------
--------------------------------------- Telephone Number:
-------------------------------- --------------------
Refer Reply To:
CC:ITA:B02
Attn: --------------------------------------------- PLR-100254-24
Date:
July 03, 2024

Taxpayer = -----------------------------
State1 = -------------
Business1 = -----------------------------
Market1 = -------------------------------------------
Holdco1 = -----------------------------------------
Holdco2 = ---------------------------------------------
Parent = ---------------------------------
Financial Advisor = ------------------------
Accounting Firm = -------------------------------
Payment Agent = -------------------------------
Entity 1 = ---------------------------
Buyer = ---------------
Percent 1 = ----
Percent 2 = ------
Percent 3 = --------
Date 1 = -----------------------
Date 2 = ---------------------------
Date 3 = --------------------------
Date 4 = -------------------------
Date 5 = -------------------
Date 6 = -------------------
Date 7 = ---------------------------

PLR-100254-24 2

Date 8 = ----------------------
Date 9 = ----------------------
Year 1 = -------
Year 2 = -------
Year 3 = -------
$a = ---------------
$b = -----------
$c = ------------------
$d = ------------------

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

                                       FACTS

Taxpayer is a limited liability company under State1 law that is treated as a partnership
for U.S. federal income tax purposes. Taxpayer employs an accrual method of
accounting on a calendar year basis. Taxpayer is engaged in the trade or business of
Business1. Specifically, Taxpayer is engaged in Market1.

Taxpayer is owned directly by two holding corporations, Holdco1 and Holdco2
(collectively the “Holdcos”). At all relevant times, Holdco1’s and Holdco2’s shares of
Taxpayer’s profits, losses, and capital has been Percent 1 and Percent 2, respectively.
Taxpayer represents that the activity of the Holdcos was limited to holding stock of the
Taxpayer as single asset holding companies. The Holdcos were owned by dozens of
shareholders (“Sellers”) who sold their Holdco stock in the Transaction. None of the
Sellers owned more than a Percent 3 indirect interest in Taxpayer through their Holdco
stock.

Parent, an eligible entity that elected to be classified as an association taxable as a
corporation for federal income tax purposes, is the Parent company of an affiliated
group of corporations that files a consolidated federal income tax return. Buyer is a
single member LLC that is disregarded for federal income tax purposes and is indirectly
owned by Parent. Buyer is a cybersecurity company which provides a full suite of
cybersecurity products.

Through its subsidiary Buyer, Parent acquired all of the outstanding stock of the
Holdcos in exchange for cash in a taxable reverse subsidiary merger (the
“Transaction”). Taxpayer represents that Buyer paid cash to acquire its interest in
Taxpayer, and that the debt on Buyer’s balance sheet was not incurred to finance the

PLR-100254-24 3

acquisition of Taxpayer. Prior to the Transaction, there was no common ownership of
Parent and the Holdcos.

On Date 1, Taxpayer, Holdcos, the acquiring entities, and Sellers’ representative signed
and executed an Agreement and Plan of Merger (“Merger Agreement”). Taxpayer
represents that the purchase price paid by Buyer for Taxpayer’s equity was equal to
Taxpayer’s enterprise value adjusted for the amount of Taxpayer’s liabilities, including
unpaid transaction costs.

Following the Transaction, Buyer directly owned the Holdcos. Taxpayer represents that
the Transaction was a taxable acquisition of an equity interest in Taxpayer and,
immediately after the acquisition, Parent and Taxpayer were related within the meaning
of § 267(b) and § 707(b) of the Internal Revenue Code (i.e., a covered transaction
under § 1.263(a)-5(e)(3)(ii) of the Income Tax Regulations). Holdcos did not sell their
interests in the Taxpayer. Instead, Sellers sold their stock interests in the Holdcos to
Buyer.

Taxpayer states that it restructured its debt in Year 1 but continued to generate losses
and needed additional capital to continue operations and remain a going concern.
Taxpayer’s large enterprise customers had requested Taxpayer to extend its
capabilities beyond data loss prevention to enable the customers to consolidate the
number of vendors in their security stack.

On Date 2, Taxpayer engaged Financial Advisor, an unrelated third party that provides
investment banking services, to assist Taxpayer in investigating and pursuing the
Transaction. Taxpayer represents that the engagement letter was erroneously
addressed to Entity 1., the predecessor entity to Taxpayer, but that Taxpayer was the
contracting party with Financial Advisor.

Taxpayer represents that it engaged Financial Advisor to explore strategic alternatives
to help Taxpayer maintain relevance in the marketplace, to fulfill Taxpayer’s customers’
desire to consolidate vendor relationships by procuring more services from a single
vender, and to obtain capital. Financial Advisor provided financial advisory services to
Taxpayer, assisted Taxpayer in preparing materials for prospective acquirers, identified
and screened prospective acquirers, and managed communications with prospective
acquirers related to Taxpayer’s due diligence inquiries. Taxpayer states that it
anticipated significant business benefits directly associated with the Transaction and
related capital. Taxpayer represents that it is not aware of any strategic or financial
advisory services regarding the transaction rendered by Financial Advisor to an entity
other than Taxpayer.

Taxpayer incurred a fee of $ a for Financial Advisor’s services that was contingent upon
the successful closing of the Transaction (the “Contingent Fee”). Taxpayer also incurred
$ b of reimbursable expenses payable to Financial Advisor, which were capitalized in
connection with the Transaction and are not part of the Contingent Fee.

PLR-100254-24 4

The Merger Agreement required Buyer to pay off (or cause to be paid off) all of
Taxpayer’s outstanding indebtedness and transaction expenses at or prior to closing, in
part to ensure that Taxpayer’s obligation to Financial Advisor was satisfied. A third-party
Payment Agent handled the closing payments for the Transaction. Taxpayer transferred
$ c of cash and Buyer transferred $ d of cash to the Payment Agent to effectuate the
closing of the Transaction.

The Payment Agent transferred the cash for the Contingent Fee to Financial Advisor at
the closing of the Transaction. Taxpayer represents that the Contingent Fee was either
paid using funds provided by the Taxpayer or by Buyer on behalf of Taxpayer. Taxpayer
states that is unclear whether Taxpayer or Buyer paid the Contingent Fee because the
cash provided by each party to the Payment Agent is fungible, and both parties
provided sufficient cash to the Payment Agent at closing that may have been used to
pay the Contingent Fee.

Taxpayer maintains that if the Contingent Fee were paid by Buyer, the payment by
Buyer was not paid out of sales proceeds. Instead, Taxpayer maintains that Buyer’s
payment would be treated as a payment of Taxpayer’s liability, resulting in a capital
contribution by Buyer to Taxpayer, rather than as a payment on behalf of Sellers.

Parent engaged Accounting Firm to prepare its consolidated federal income tax returns
beginning with its taxable year ended Date 3. Due to the Transaction, Parent also
engaged Accounting Firm to prepare Taxpayer’s Form 1065 for the Year 2 taxable year
as well as Holdcos’ short period Forms 1120 for the period ended Date 1. Accounting
Firm was also engaged to prepare the opening balance sheets (“OBS”) with respect to
the Transaction based on information provided by Buyer.

On Date 4, in connection with the preparation of the OBS, Accounting Firm sent an
email to Buyer’s then tax manager requesting general ledger detail for the account
labeled “transaction costs” on Taxpayer’s trial balance to determine the appropriate
treatment of the costs in that account. On Date 5, Buyer’s tax manager asked
Taxpayer’s financial controller by email if the Contingent Fee was a success-based fee.
On Date 6, Taxpayer’s financial controller responded by email, stating that he was
unsure of the nature of the Contingent Fee because Taxpayer’s agreement with
Financial Advisor was handled by a former officer of Taxpayer.

Taxpayer represents that because Buyer and Accounting Firm were not able to
determine that the Contingent Fee was a success-based fee at that time, Taxpayer
capitalized the entire Contingent Fee on its financial statements. Taxpayer further
represents that neither the Holdcos nor Buyer accounted for the Contingent Fee for
book or tax purposes.

A timely extension was filed to extend the due date of Taxpayer’s Year 2 Form 1065 to
Date 7.

PLR-100254-24 5

On Date 8, in connection with the preparation of Taxpayer’s Year 2 Form 1065,
Accounting Firm emailed Buyer’s tax manager to again request detail with respect to the
treatment of Taxpayer’s transaction costs. On Date 9, Buyer’s tax manager responded
by email with a transaction cost summary spreadsheet (“Summary”) which identified the
Contingent Fee as a success-based fee because, by that time, Buyer’s tax manager
had determined that the Contingent Fee was a success-based fee. The Summary
included a calculation showing that 70% of the Contingent Fee was deductible based on
Taxpayer’s intention to make the Rev. Proc. 2011-29 Safe Harbor Election. The
Summary also included a reconciliation of the transaction costs capitalized on the OBS
that Taxpayer inadvertently failed to remove.

Accounting Firm inadvertently overlooked and was not otherwise made aware of the
new information regarding the deductibility of the Contingent Fee based on the
application of the Rev. Proc. 2011-29 Safe Harbor Election (“Election”) in the Summary.
Accounting Firm interpretated the reconciliation included in the Summary to mean that
Taxpayer’s transaction costs were required to be capitalized on Taxpayer’s Year 2 Form
1065.

Buyer’s tax manager reviewed a draft of Taxpayer’s Year 2 Form 1065 before it was
filed. However, he did not realize that 70% of the Contingent Fee was not deducted or
that the election statement required by section 4.01(3) of Rev. Proc. 2011-29 (“Election
Statement”) was not included before the Year 2 Form 1065 was signed and filed.

In connection with the preparation of Parent’s Year 3 provision for income taxes,
Buyer’s tax manager realized both that 70% of the Success-Based Fee was not
deducted on Taxpayer’s Year 2 Form 1065 and that the Election Statement was omitted
from Taxpayer’s return. Taxpayer immediately asked Accounting Firm for assistance in
remedying the late filing of the Election.

Taxpayer represents that it intended to make the Election for the Transaction and to
deduct 70% and capitalize 30% of the Contingent Fee on its Year 2 Form 1065.
Taxpayer further represents that it relied on its tax advisors for advice on the
requirements to make the Election. Taxpayer believed that its advisors possessed
sufficient experience to guide Taxpayer through the process of making the Election.

Taxpayer represents that it is not seeking to alter a return position for which an
accuracy-related penalty has been or could be imposed under § 6662 at the time this
request for relief was submitted. Taxpayer further represents that no specific facts have
changed since the due date for making the Election and filing the Election Statement
that would make the Election more advantageous now than it would have been if the
Election been made and had the Statement been included with the timely filed return.

PLR-100254-24 6

Taxpayer represents that its liability will not be lower in the aggregate for all taxable
years affected by the Election than it would have been if the Election had been timely
made. Taxpayer further represents that the period of limitations on assessment under
§ 6501(a) has not yet expired for the taxable year in which the Election Statement
should have been attached to Taxpayer’s return or for any other taxable years that
would have been affected by the Election had it been timely made.

                              LAW AND ANALYSIS

Sections 301.9100-1 through 301.9100-3 of the Procedure and Administration
regulations 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 the term
"regulatory election" as an election whose due date is prescribed by a regulation
published in the Federal Register, or a revenue ruling, procedure, notice or
announcement published in the Internal Revenue Bulletin.

Section 301.9100-3(a) provides that requests for relief 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) states that 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 (taking into account the taxpayer’s
experience and the complexity of the return at issue), 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, including a tax professional
employed by the taxpayer, 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 (taking into account any qualified amended return filed within
the meaning of § 6664-2(c)(3)) 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)

PLR-100254-24 7

uses hindsight in requesting relief. If specific facts have changed since the original
deadline that make the election advantageous to a taxpayer, the Service will not
ordinarily grant relief.

Section 301.9100-3(c)(1) provides that the Commissioner will grant a reasonable
extension of time to make a regulatory election only when the interests of the
Government will not be prejudiced by the granting of relief. Section 301.9100-3(c)(1)(i)
provides, in part, 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 (taking into account the time value of money). Section 301.9100-
3(c)(1)(ii) provides, in part, that 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 it 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.

Section 263(a)(1) and § 1.263(a)-2(a) provide 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. INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 89-
90 (1992); Woodward v. Commissioner, 397 U.S. 572, 575-576 (1970).

Under § 1.263(a)-5, a taxpayer must capitalize an amount paid to facilitate a business
acquisition or reorganization transaction described in § 1.263(a)-5(a). Section 1.263(a)-
5(b)(1) provides that, in general, 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. Section 1.263(a)-5(b)(1) also provides that whether an amount
is paid in the process of investigating or otherwise pursuing the transaction is
determined based on all the facts and circumstances.

Under § 1.263(a)-5(f), an amount paid that is contingent on the successful closing of a
transaction described in § 1.263(a)-5(a) (“a success-based fee”) is an amount paid to
facilitate the transaction and, thus, must be capitalized. A taxpayer may rebut this
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. This documentation must be completed on or before the due date of the
taxpayer’s timely filed original federal income tax return (including extensions) for the
taxable year during which the transaction closes.

Section 1.263(a)-5(k) states that, for purposes of § 1.263(a)-5, references to an amount
paid to or by a party include an amount paid on behalf of that party.

PLR-100254-24 8

To reduce controversy between the Service and taxpayers over the documentation
required to allocate success-based fees between the activities that facilitate the
transaction and activities that do not facilitate the transaction, the Service issued 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) (“covered transactions”), including a taxable acquisition
of an ownership interest in a business entity (whether the taxpayer is the acquirer in the
acquisition or the target of the acquisition if, immediately after the acquisition, the
acquirer and the target are related within the meaning of § 267(b) or § 707(b). 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, meaning that amount can be deducted. The remaining 30
percent of the success-based fee must be capitalized as an amount that facilitates the
transaction.

Section 4.01 of Rev. Proc. 2011-29 allows the 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 a success-based fee between activities that
facilitate a transaction described in § 1.263(a)-5(e)(3) (costs that must be capitalized)
and activities that do not facilitate the transaction (costs that may be deductible) if the
taxpayer: (1) treats 70 percent of the amount of the success-based fee as an amount
that does not facilitate the transaction and thus may be deducted; (2) capitalizes the
remaining 30 percent as an amount that does facilitate the transaction and thus may be
capitalized; and (3) attaches a statement to its original federal income tax return for the
taxable year the success-based fee is paid or incurred, stating that the taxpayer is
electing the safe harbor, identifying the transaction, and stating the success-based fee
amounts that are deducted and capitalized pursuant to the safe harbor election.

Section 1.263(a)-1(e)(1) provides that commissions and other transaction costs paid to
facilitate the sale of property are not currently deductible under § 162 or § 212 . Instead,
the amounts are capitalized costs that reduce the amount realized in the taxable year in
which the sale occurs or are taken into account in the taxable year in which the sale is
abandoned if a deduction is permissible. These amounts are not added to the basis of
the property sold or treated as an intangible asset under § 1.263(a)-4. Section 1.263(a)-
5(b)(2) provides that an amount required to be capitalized by § 1.263(a)-1, among other
provisions, does not facilitate a transaction described in § 1.263(a)-5(a). Thus,
commissions and transaction costs that are paid to facilitate a sale and that reduce
amount realized are not also covered by § 1.263(a)-5, making Rev. Proc. 2011-29 also
not applicable.

Section 162(a) provides that a deduction for all ordinary and necessary expenses paid
or incurred during the taxable year in carrying on any trade or business is allowed. To
be deductible as an ordinary and necessary expense, the cost must be "directly
connected with " or have "proximately resulted from" a taxpayer’s business activity.
Kornhauser v. United States, 276 U.S. 145, 153 (1928). In related party settings, the

PLR-100254-24 9

deductibility of a cost is not necessarily controlled by the party that undertakes the legal
obligation. Deputy v. Du Pont, 308 U.S. 488, 496 (1940); Interstate Transit Lines v.
Commissioner, 319 U.S. 488 (1943); Swed Distributing Company v. Commissioner, 323
F.2d 480, 483 (5th Cir. 1963). In evaluating which related party is the appropriate party
to take a § 162 deduction, courts generally focus on the connection of the expense to
the respective business of those parties. In denying an individual shareholder (owning
about 16 percent of company stock) the ability to deduct a contracted cost that
benefited the shareholder, the Court in Du Pont observed that implicit in the statutory
words "expenses paid or incurred in carrying on any trade or business" is a proximate
relationship between the expense and business of the taxpayer. Du Pont, 308 U.S. at
496.

The issue of whether an expense is that of a corporation or a controlling shareholder is
given heightened scrutiny. Hood v. Commissioner, 115 T.C. 172, 179 (2000). Section
1.263(a)-5 expressly applies to costs paid or incurred by a target company. See, e.g., §
1.263(a)-5(e)(3)(iii). The Service generally has not asserted that costs directly paid by a
non-majority controlled public target company must be treated as the costs of selling
shareholders so as to preclude a § 162 deduction by the target company. INDOPCO,
Inc. v. Commissioner, 503 U.S. 79 (1992) (the Service has, however, successfully
challenged a target company's claim that it could deduct rather than capitalize
investment banking fee and legal fees paid by the target in its friendly takeover). In
INDOPCO, the taxpayer’s stock was publicly traded and listed on the New York Stock
Exchange and its ownership was diversified, with its largest shareholder owning
approximately 14.5% of its common stock.

                                  CONCLUSION

Based on the facts and representation submitted, we conclude that Taxpayer acted
reasonably and in good faith and granting relief will not prejudice the interests of the
government. Accordingly, 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
statement required by section 4.01(3) of Rev. Proc. 2011-29, stating that it is electing
the safe harbor for the fee paid to Financial Advisor of $ a, identifying the transaction,
and stating the success-based fee amounts that are deducted and capitalized.

The ruling contained in this letter is based upon information and representations
submitted by Taxpayer and accompanied by penalty of perjury statements executed by
the appropriate parties. This office has not verified any of the materials submitted in
support of the request for a ruling and the information materials are 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

PLR-100254-24 10

this letter. In particular, no opinion is expressed on whether: (a) Taxpayer is otherwise
eligible or otherwise qualifies to make the Rev. Proc. 2011-29 election; (b) the fee paid
to Financial Advisor was paid by Taxpayer, or else was paid by its acquirer Buyer on
Taxpayer's behalf within the meaning of § 1.263(a)-5(k); (c) Taxpayer was the proper
legal party to make the Rev. Proc. 2011-29 election and claim a deduction for 70
percent of the fee paid to Financial Advisor; (d) the fee paid to Financial Advisor is
properly treated, in whole or part, as a deductible or capitalizable cost of Taxpayer; (e)
the fee paid to Financial Advisor is a success-based fee under Rev. Proc. 2011-29; (f) §
1.263(a)-1(e)(1) applies to the facts in this matter; (g) the fee paid to Financial Advisor
was directly connected with or proximately resulted from Taxpayer’s business activity;
or (h) the fee paid to Financial Advisor is subject to §§ 162(k) ,195 or any other Code
provision or regulation that would preclude its deduction or capitalization. Further, no
opinion is expressed regarding the tax treatment of Sellers, Holdcos, Buyer, or Parent
resulting from the payment of the fee to Financial Advisor.

This ruling is directed only to the taxpayer requesting it. Section 6110(k)(3) of the Code
provides that it may not be used or cited as precedent.

A copy of this ruling should be attached to Taxpayer's federal tax returns for the tax
years affected. Alternatively, taxpayers filing their returns electronically may satisfy this
requirement by attaching a statement to their return that provides the date and control
number of the letter ruling.

                                                           Sincerely,


                                                           _______________________________
                                                           Bridget E. Tombul
                                                           Branch Chief, Branch 2
                                                           Office of Associate Chief Counsel
                                                           (Income Tax and Accounting)

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