- Extending an Olive Branch: IRS Issues Ruling Providing Taxpayer Relief for Late Election of Rev. Proc. 2011-29 Safe Harbor
- October 19, 2017 | Authors: Amish M. Shah; Caroline R. Reaves
- Law Firms: Eversheds Sutherland (US) LLP - Washington Office ; Eversheds Sutherland (US) LLP - Washington Office
The Internal Revenue Service (Service) issued PLR 201739003 on September 29, 2017, in which it granted an extension to a taxpayer that failed to timely file for the safe-harbor election provided in Rev. Proc. 2011-29, 2011-1 CB 746, which allows taxpayers to treat 70% of success-based corporate transaction costs as deductible. This ruling follows a number of other similar rulings issued to taxpayers that either failed to comply with the safe harbor election requirements or failed to deduct certain success-based fees, notwithstanding that safe harbor treatment had been planned.
This ruling serves as an important reminder that the tax treatment of corporate transaction costs should be carefully reviewed to ensure that the original tax return treatment is correct. However, in certain circumstances, the tax treatment of transaction costs may later be corrected, even after an original return has been filed.
Generally, amounts paid in the process of investigating or pursuing a corporate transaction are considered facilitative or non-deductible. Under Treas. Reg. § 1.263(a)-5(f), success-based fees, i.e., fees paid to service providers such as investment banks that are contingent on the successful closing of a transaction, are presumed non-deductible. However, taxpayers may rebut this presumption and deduct a portion of success-based fees by maintaining sufficient documentation to establish the portion of fees allocable to non-facilitative (or deductible) activities.
Section 4.01 of Rev. Proc. 2011-29 provides a safe harbor for allocating success-based fees in transactions described in Treas. Reg. § 1.263(a)-5(e)(3) (“covered transactions”). A taxpayer may elect to treat 70% of the success-based fee as non-facilitative (or deductible) and 30% as facilitative (or non-deductible). The election is irrevocable, and all success-based fees in the transaction must be allocated using the safe harbor. To take advantage of the safe harbor, an election statement is required, and it must be attached to the taxpayer’s original federal tax return. Taxpayers that fail to comply with the safe harbor requirements may request relief under Treas. Reg. § 301.9100-1, so-called “9100 Relief.” The Commissioner has discretion to grant 9100 Relief, allowing a reasonable extension of time to make certain regulatory elections, including a due date prescribed by a regulation, revenue ruling, revenue procedure, notice, or announcement. Such relief is generally available when the taxpayer presents evidence that it acted reasonably and in good faith and that granting relief would not prejudice the interests of the government.1
Overview of Ruling
In the ruling, the taxpayer incurred professional service fees contingent on the successful closing of a planned merger. In the process of preparing its pre-transaction tax return, the taxpayer reported to its tax preparer, based on the then-current understanding of its personnel, that it had not incurred any success-based fees or transaction costs in connection with the merger. As such, the original tax return neither: (i) took into account any transaction-related costs; (ii) allocated any success-based fees; nor (iii) included the safe-harbor election statement. Subsequently, the taxpayer discovered that transaction costs had been incurred, including a success-based fee.
The Service noted that the request for an extension of time to make the safe-harbor election was ineligible for an automatic extension. Instead, it fell under the purview of Treas. Reg. § 301.9100-3, which requires the taxpayer to present evidence that it acted reasonably and in good faith and that granting relief would not prejudice the interests of the government. The Service outlined three situations in which the government’s interests would be prejudiced: (i) 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; (ii) if the taxable year in which the regulatory election should have been made was closed by the period of limitations on assessment; or (iii) 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 permit 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. Without further explanation, the Service concluded that the taxpayer had acted reasonably and in good faith, and granting relief would not prejudice the interests of the government. As such, the taxpayer qualified for an extension of 60 days to file for the safe-harbor election under Rev. Proc. 2011-29.
Significance of Ruling
This ruling follows a series of PLRs in which the Service granted 9100 Relief for failure to timely elect the safe harbor provided for under Rev. Proc. 2011-29. In these situations, 9100 Relief was provided, in part, because the Service concluded that the taxpayer had acted reasonably and in good faith, and granting relief wouldn’t prejudice the interests of the government. The Service has granted relief both when an election statement was not included with an original return and when a taxpayer failed to claim a deduction for success-based fees on its return. For instance, in PLR 201718019, 9100 Relief was granted to a taxpayer who had failed to attach the requisite election statement after relying on a tax return preparer to attach the mandatory statements identifying the transactions and setting forth the allocation. Meanwhile, in PLR 201732013, a taxpayer relied in good faith reliance on an experienced, accredited CPA that failed to properly conclude that various amounts were success-based fees, thereby, failing to recommend safe harbor election. When the error was subsequently discovered, the Service granted 9100 Relief. See also PLR 201736009 (taxpayer inadvertently failed to include the election statement in its return due to employee turnover, which resulted in none of the people most familiar with the missed election statement remaining on hand to file the statement and resolve any issue); PLR 201732026 (taxpayer treated success-based fees in accordance with safe harbor, but inadvertently failed to attach the required statement to the return); PLR 201732024 (taxpayer applied safe harbor to success-based fees on the return, but inadvertently failed to attach the statement); PLR 201732013 (good faith reliance on experienced, accredited CPA that failed to properly conclude amounts were success-based fees, thereby, failing to recommend safe harbor election); PLR 201732028 (good faith reliance on accredited tax preparer that provided improper advice regarding safe harbor election); PLR 201741011 (good faith reliance on tax return preparer who failed to electronically file for an extension of time for the taxpayer’s consolidated federal income tax return containing the safe harbor election statement) – in each of these rulings, the Service granted 9100 Relief to a taxpayer who failed to timely elect the safe harbor provided in Rev. Proc. 2011-29.
These rulings indicate that the Service is not inclined to investigate the extent to which the error that resulted in non-compliance with the safe harbor election requirement was preventable, provided the taxpayer acted reasonably and in good faith, and granting relief wouldn’t prejudice the government. However, note that not all requests are favorable filings for 9100 Relief. See, e.g., PLR 201639009 (denying relief to taxpayer who filed after the limitations period had closed for the requested taxable year and who made the election on an amended return, not the original one as required). Although the rulings demonstrate a trend of the Service’s willingness to extend relief to taxpayers who present certain fact patterns discussed above, it is still important to remember both that 9100 Relief is processed by different branches of the Service and that the ultimate success is dependent on underlying facts and circumstances.
Eversheds Sutherland Observation: It is important to note that the safe harbor election is limited to success-based fees. It does not apply to non-success based fees, retainer fees or expense reimbursements. Further, the safe harbor is limited to success-based fees paid for services attributable to investigating or otherwise pursuing a covered transaction, and as such, the safe harbor is not available for other success-based services (e.g., debt-related services). However, in those situations in which the safe harbor is appropriate, the Service has indicated a willingness to “extend an olive branch” and provide 9100 Relief to taxpayers that failed to properly comply with the safe harbor requirements.
In taxpayer favorable rulings, at least one of the following factors is generally present: (i) taxpayer applied the safe harbor properly but inadvertently failed to attach the election statement to its timely filed return; or (ii) taxpayer relied in good faith on the advice or services of an accredited tax preparer, CPA or other professional who failed to attached the election statement or properly conclude that the applicable amounts qualified for the safe harbor. 9100 Relief may be available even when these facts are not present but securing relief may be more complicated.1 It is important to note that while Treas. Reg. §301.9100-3 does enable the Service to grant 9100 Relief to taxpayers seeking an extension of time to make regulatory elections, it does not afford the Service the same authority with respect to statutory elections. Section 9100 Relief for statutory elections is governed by Treas. Reg. §301.9100-2(b), which provides taxpayers with only an automatic extension of six months from the due date of a timely filed return to make the statutory election, provided the taxpayer takes “corrective action” within that 6-month period. Beyond that 6-month period, a statutory election cannot be further extended.