Acquired Taxpayer Is Not Eligible for Success-Based Fee Safe Harbor of Rev. Proc. 2011-29

By David Ulrich, CPA, Irvine, Calif.

Editor: Mark G. Cook, CPA, MBA, CGMA

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 may then deduct 70% of the amount of the success-based fees while capitalizing the remaining 30%. A statement must be attached to the original federal income tax return for the tax year the success-based fees are paid or incurred, stating the safe-harbor election is being made and the amounts that are being deducted and capitalized. The safe-harbor election is the main issue addressed in CCA 201624021.


The acquired taxpayer is not allowed to make the safe-harbor election since it only applies to "covered transactions" under Regs. Sec. 1.263(a)-5(e)(3) and the transaction does not fall under that definition. Regs. Sec. 1.263(a)-5(e)(3) says "covered transactions" include the following:

(i) A taxable acquisition by the taxpayer of assets that constitute a trade or business.

(ii) 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 section 267(b) or 707(b).

(iii) A reorganization described in section 368(a)(1)(A), (B), or (C) or a reorganization described in section 368(a)(1)(D) in which stock or securities of the corporation to which the assets are transferred are distributed in a transaction which qualifies under section 354 or 356 (whether the taxpayer is the acquirer or the target in the reorganization).

According to CCA 201624021, the phrase "taxable acquisition by the taxpayer" in Regs. Sec. 1.263(a)-5(e)(3)(i) means that the provision applies only to acquiring taxpayers and not to acquired taxpayers. Regs. Sec. 1.263(a)-5(e)(3)(i) does not contain language that states it applies to the target or the acquired taxpayer, unlike Regs. Sec. 1.263(a)-5(a)(1), which includes the parenthetical "(whether the taxpayer is the acquirer in the acquisition or the target of the acquisition.)"

Therefore, Target is not eligible to elect the safe harbor since it is the target of the acquisition, and it must capitalize the success-based fees that it claimed as an expense. If Target could document that a portion of the costs are related to activities that did not facilitate the transaction, then it can expense those. However, without the documentation, Target cannot currently deduct the fees.


Mark Cook is the lead tax partner with SingerLewak LLP in Irvine, Calif.

For additional information about these items, contact Mr. Cook at 949-261-8600 or

Unless otherwise noted, contributors are members of or associated with SingerLewak LLP.

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