Final regs. on capitalizing transaction costs.

• Author: Braverman, Harvey

The Service recently issued final regulations (TD 9107) under Sec. 263(a) addressing capitalization of amounts paid to facilitate certain types of acquisitive and capital transactions. The regulations are effective for amounts paid or incurred after Dec. 30, 2003 (although a taxpayer seeking to change an accounting method to comply with the regulations must make the change taking into account amounts paid or incurred in tax years ending after Jan. 23, 2002; see Borrack and Fitzpatrick, Tax Clinic, "Guidance on Accounting Method Changes for Intangibles," p. 330, this issue).

The regulations generally require a taxpayer to capitalize costs incurred in the process of "investigating or otherwise pursuing" one of several types of enumerated transactions. They also provide exceptions to the general rule, including a bright-line rule for costs incurred for certain types of acquisitive transactions, which replaces the facts-and-circumstances-based analysis of investigatory costs.

General Rule

Under Regs. Sec. 1.263(a)-5(a)(1)-(10), a taxpayer must capitalize costs incurred to facilitate any of the following transactions (applicable transactions):

* An acquisition of (1) assets constituting a trade or business and (2) stock in a corporation or ownership interest in another entity, if the acquirer owns 50% or more of such entity after the acquisition (specifically, if the acquisition results in a relationship described in Sec. 267(b) or 707(b)), for both acquirer and target costs;

* A restructuring, recapitalization or reorganization of capital structure (including Sec. 368 reorganizations and Sec. 355 distributions);

* A transfer under Sec. 351 or 721, for both transferor and transferee costs;

* A formation or an organization of a disregarded entity;

* A capital acquisition;

* A stock issuance or a borrowing; and

* The writing of an option.

According to Regs. Sec. 1.263(a)-5(b)(1), an amount "facilitates" an applicable transaction if a taxpayer incurs it while "investigating or otherwise pursuing" the transaction. This definition includes an amount paid to determine a transaction's price or value. According to the regulations, it is not a "but for" test per se, pursuant to which costs that would not have been incurred but for the transaction must be capitalized, although whether or not the transaction occurred but for the transaction is a relevant factor in determining whether a cost was paid to facilitate it.

Specific Types of Costs

Under Regs...