Acquired taxpayer is not eligible for success-based fee safe harbor of rev. proc. 2011-29.

• Author: Ulrich, David

On June 10, 2016, the IRS released Chief Counsel Advice (CCA) 201624021, which examines when an acquired taxpayer elects to treat a stock sale as an asset sale under Sec. 338(h)(10).The CCA addressed whether an acquired taxpayer can elect to allocate success-based fees paid in conjunction with the acquisition under Rev. Proc. 2011-29.

In the transaction described in CCA 201624021, the shareholders of Target Corp. (Target), an S corporation, sold all of their outstanding stock to Acquirer Corp. (Acquirer) for $X (transaction) on Dec. 31,2012. Target incurred success-based costs to create financial models and prepare buyer lists, which were paid to an investment bank. It also incurred non-success-based costs for general marketing to potential buyers. These costs included amounts paid for drafting information memoranda, reviewing contracts, and preparing letters of intent.

Target filed its 2012 Form 1120S, U.S. Income Tax Return for an S Corporation, timely and attached a statement electing the safe-harbor allocation under Rev. Proc. 2011-29. In the statement, Target identified the transaction and stated that it was capitalizing 30% of its success-based costs and deducting the other 70% of those costs as is allowed under the safe-harbor election.

Law and Analysis

Under Regs. Sec. 1.263(a)-5, a taxpayer must capitalize an amount paid to facilitate various business transactions, without regard to whether the transaction is composed of a single step or a series of steps carried out as part of a single plan and without regard to whether gain or loss is recognized on the transaction. The list of transactions includes an acquisition of assets that constitute a trade or business (whether the taxpayer is the acquirer in the acquisition or the target of the acquisition) (Regs. Secs. 1.263(a)-5(a)(1)-(10)).

A success-based fee is paid to facilitate a transaction described in Regs. Sec. 1.263(a)-5(a) if the amount is paid in the process of investigating or otherwise pursuing the transaction. Success-based fees are presumed to facilitate the transaction and, therefore, must be capitalized. For the taxpayer to deduct these fees, it must maintain sufficient documentation to establish that a portion of the success-based fees is allocable to activities that do not facilitate the transaction (Regs. Sec. 1.263(a)-5(f)).

The taxpayer is allowed to make a safe-harbor election under Rev. Proc. 2011-29 in lieu of maintaining the required documentation. The taxpayer...