Late success-based-fee election denied because the investment banking fee was the private-equity seller's selling cost, not the target's deduction

Plain-English summary

When a business is sold, investment banking "success-based fees" tied to closing the deal can sometimes be split under a safe harbor (Rev. Proc. 2011-29), deducting 70 percent and capitalizing 30 percent, instead of proving how much of the work actually facilitated the sale. Here a private equity fund (the Seller) sold its portfolio company (Parent, and with it the operating subsidiary, Taxpayer) to a Buyer. The contingent investment banking fee was paid by the Seller out of the sale proceeds, and the selling shareholders already reduced their taxable gain by that fee. Taxpayer then asked the IRS for late-election relief so it could ALSO deduct 70 percent of the same fee, a second, duplicative tax benefit. The IRS denied the request. It explained that under Section 301.9100-1(a) it can refuse late-election relief when the taxpayer plainly doesn't qualify for the underlying election, and here the fee is a cost of selling stock that Section 1.263(a)-1(e)(1) and long-standing Supreme Court case law require to be capitalized as an offset to the seller's amount realized. Because the fee was proximately connected to the Seller's business of buying and selling companies, not to Taxpayer's operations, it was never Taxpayer's Section 162 expense, and the safe harbor did not apply.

Ruling snapshot

• Question: May a target subsidiary get a late election under Rev. Proc. 2011-29 to deduct 70 percent of an investment banking fee that the private-equity seller paid on the sale of the parent's stock?
• Outcome: denied (taxpayer fails the underlying election requirements; the fee is the seller's capitalized selling cost)
• Key authorities: IRC §§ 162, 263(a); Treas. Reg. §§ 1.263(a)-1(e)(1), 1.263(a)-5, 301.9100-1, 301.9100-3; Rev. Proc. 2011-29; Woodward v. Comm'r, 397 U.S. 572; Deputy v. du Pont, 308 U.S. 488; Interstate Transit Lines v. Comm'r, 319 U.S. 590

Full text (IRS public release)

Internal Revenue Service                                      Department of the Treasury
                                                              Washington, DC 20224

Number: 202308010                                             Third Party Communication: None
Release Date: 2/24/2023                                       Date of Communication: Not Applicable
Index Number: 9100.00-00, 263.00-00,
              162.00-00                                       Person To Contact:
                                                              ------------------------, ID No. -----------------
-------------------                                           Telephone Number:
                                                              --------------------
-----------------------------                                 Refer Reply To:
-------------------                                           CC:ITA:B01
----------------------------------------                      PLR-123597-21
In Re: ---------------------------------------                Date:
                                                              November 22, 2022




Parent                                =     -----------------------------
Taxpayer                              =     --------------------------------------
Seller                                =     --------------------------------------------------
Buyer                                 =     -------------------------------------------------------------------
Financial Advisor                     =     ---------------------------
State A                               =     -------------
State B                               =     -------------
City A                                =     -------------------
Year 1                                =     -------
Date 1                                =     --------------------------
Date 2                                =     --------------------------
Date 3                                =     ----------------------
Date 4                                =     -------------------
Date 5                                =     ---------------------------
a%                                    =     ------
b%                                    =     ------
c%                                    =     ------
PLR-123597-21                                     2

    $d                            =    -------------
    Business A                         ----------------------------------------------------------------------
                                       ----------------------------------------------------------------------
                                       -------------------
    Business B                         ----------------------------------------------------------------------
                                       ----------------------------------------------------------------------
                                       --------------------------------------------


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

       This letter responds to a request for a private letter ruling that Parent filed on
behalf of Taxpayer with the Internal Revenue Service (Service). In the letter ruling
request and subsequent submissions, you seek an extension of time for Taxpayer to
make a safe harbor election under Rev. Proc. 2011-29, 2011-18 I.R.B. 746, to deduct
70 percent and capitalize 30 percent of investment banking fees paid by Seller as
Taxpayer's success-based fees, effective for the taxable year that ended on Date 1.
The request is made in accordance with sections 301.9100-1 and 301.9100-3 of the
Procedure and Administration Regulations. Taxpayer's request was filed with our office
on Date 2.

                                             FACTS

Parent is a domestic corporation and the common parent of a consolidated group (the
"Parent Group"). Taxpayer, a State A corporation, is a direct, wholly owned subsidiary of
Parent and a member of the Parent Group. Taxpayer is engaged in Business A.
Taxpayer employs the accrual method of accounting on a calendar year basis.

Seller is a domestic limited partnership located in City A. Seller is a closed private
equity investment fund that invests in and then later sells companies in Business B.
Prior to selling its ownership interest, Seller owned a% of the stock of Parent. The
remaining b% ownership in Parent was held by minority shareholders. Seller was
appointed as the representative of all stockholders of Parent (collectively referred to
herein as Selling Shareholders).

On Date 3, Taxpayer contracted with Financial Advisor to act as Taxpayer's investment
banker and financial advisor with respect to (1) a sale of Taxpayer's stock or
substantially all of its assets, (2) a recapitalization, or (3) an extraordinary dividend to
Taxpayer's equity holders. Seller did not engage a separate financial advisor to act as
its investment banker.1 Financial Advisor provided services in connection with the sale


1
  Taxpayer also represented in its Date 5 submission that it, rather than Seller, engaged other
parties (a law firm, an accounting firm, and media communication companies) "for services
relating to its efforts to sell its stock." Taxpayer further stated that under terms of the
PLR-123597-21                                   3

of Parent stock, including identifying and screening prospective purchasers, managing
communications, and assisting Taxpayer with the preparation of materials for
prospective purchasers. Under the contract, Taxpayer was obligated to pay Financial
Advisor a fee equal to c% of the base purchase price upon the completion of a
successful transaction (the Contingent Fee).

Taxpayer's executives took the lead and primarily engaged in communication with
Financial Advisor regarding prospective buyers and in gathering information for
prospective buyers.2 Moreover, in the negotiation process with Buyer, Seller's
representatives discussed, consulted, reviewed, and approved sale transaction terms
sent to Buyer.

In exploring the potential sale of Parent, Seller and Taxpayer engaged in negotiations
with Buyer, a State B limited liability company. On Date 4, Selling Shareholders and
Buyer entered into a Stock Purchase Agreement (Sale Agreement) pursuant to which
Buyer agreed to acquire all of the outstanding shares of common stock of Parent.
Neither Parent nor Taxpayer was a party to the Sale Agreement, but rather both were
the subject of the taxable stock acquisition transaction pursuant to which Selling
Shareholders transferred all of their Parent stock to Buyer.

Pursuant to the Sale Agreement, certain sales-related expenses, including the
Contingent Fee, were required to be paid out of the sales proceeds payable to Selling
Shareholders. About three weeks after executing the Sale Agreement, Financial
Advisor issued a $ d invoice to Taxpayer for its investment banking services. Prior to
the disbursement of sales proceeds to Selling Shareholders, Buyer transferred a portion
of the gross sales price to Seller to satisfy certain liabilities, including the Contingent
Fee and other transaction costs. That same day (the date of the $ d invoice), Seller
wired funds to pay Financial Advisor and other advisors their fees, thereby reducing
sales proceeds payable by Buyer to Selling Shareholders.

Pursuant to a management consulting agreement between Taxpayer and Seller,
Taxpayer was required to pay directly or reimburse Seller for any amounts Seller paid in
connection with the consulting services, including services rendered by investment
bankers or financial advisors. However, there is no evidence that Taxpayer recorded a
payable or reimbursed Seller for the Contingent Fee that Selling Shareholders paid out
of their sales proceeds or that Seller recorded a receivable on its books for the
unreimbursed amounts.3


agreements with these entities, Taxpayer would be required to pay the fees for their services
only upon the consummation of a sale of its stock or assets.
2
  Taxpayer did not provide information regarding what, if any, parameters Seller placed on the
terms of any arrangement being pursued by Taxpayer.
3
  Recording the amount of the Contingent Fee as a receivable due from Taxpayer would have
been at odds with treating the Contingent Fee as a contribution to capital or a reduction in
amount realized by Seller from the sale of Parent's stock.
PLR-123597-21                                    4

Notwithstanding that the engagement letter obligated Taxpayer to pay the Contingent
Fee (and other expenses) to Financial Advisor, the Sale Agreement caused Selling
Shareholders to be obligated to pay those fees out of closing proceeds if not paid prior
to closing. Consistent therewith, the Sale Agreement also required Seller to indemnify
and hold Buyer, Parent and Taxpayer harmless for damages directly arising from its
failure to pay the Contingent Fee (and other selling expenses) on or before closing.

Consistent with the Sale Agreement, Selling Shareholders accounted for the Contingent
Fee paid by Seller as a reduction to the gross sales price to determine the amount
realized on the sale of Parent stock; thus, Selling Shareholders' gain on the sale of
Parent stock was reduced by the Contingent Fee paid by Seller.4

The Sale Agreement also contemplated that Taxpayer would claim an additional tax
benefit by making the safe harbor election for success based fees (together with Selling
Shareholders' reduced gain on the sale of Parent stock the "Duplicative Tax Benefit").5
Taxpayer seeks a private letter ruling that permits Taxpayer to reduce its taxable
income by the Contingent Fee despite Selling Shareholders having already reduced
their taxable gain by the Contingent Fee paid by Seller.

Taxpayer represents that it benefitted from the sale of Parent because Buyer could
provide it with greater access to capital to expand its business. Taxpayer does not
address Seller's motivation for transferring ownership of Parent, but Seller was in the
business of investing in and selling interests in companies and generated substantial
gain from the sale. A press release issued by Seller and Financial Advisor states that
Financial Advisor provided strategic and financial advisory services to both Taxpayer
and Seller with respect to the sale of Parent to Buyer.

Taxpayer contends that it should be granted relief to make a late success-based fee
election to deduct 70 percent of the Contingent Fee. Taxpayer's position is based in
part on certain previously issued letter rulings that it claims involve similar
circumstances and in part on other non-precedential Large Business & International
(LB&I) training material. Taxpayer claims it "incurred" the Contingent Fee because it,
not Seller (its indirect controlling shareholder), entered into the contract with Financial
Advisor, which obligated Taxpayer to pay the Contingent Fee. Taxpayer generally
claims that Seller paid the Contingent Fee on behalf of Taxpayer pursuant to section
1.263(a)-5(k), but alternatively argues that Buyer paid the fee on behalf of Taxpayer.

4
  It is not entirely clear if Seller paid the Contingent Fee just before or just after it received
payment from Buyer; the analysis herein is not dependent on such timing.
5
  Under the Sale Agreement, Selling Shareholders were responsible for pre-closing period taxes
due for the sold business and were entitled to the benefit of tax deductions arising from the
payment of transaction costs allocable to pre-closing tax periods. The Sale Agreement also
provided that unless otherwise requested by Seller, Taxpayer would make a Rev. Proc. 2011-29
election to treat 70 percent of success-based fees that were paid or accrued by or on behalf of
Taxpayer in or before Year 1 as an amount paid that did not facilitate the contemplated
transaction.
PLR-123597-21                                5


Taxpayer further claims that Contingent Fee is properly regarded to be paid on its
behalf because it primarily benefited from the Financial Advisor's engagement in that it
was actively involved with the negotiation of its sale, which enabled it to obtain funding
for its expansion efforts. Taxpayer claims that the engagement of Financial Advisor
provided only incidental benefits to Seller.

Finally, Taxpayer contends that the Duplicative Tax Benefit is justified because (a)
Seller should be deemed to have made a capital contribution to Taxpayer equal to the
Contingent Fee (thereby increasing Seller's basis in Parent and reducing Seller's gain
on the sale), and (b) Taxpayer should be deemed to have paid the Contingent Fee
eligible for the success-based fee safe harbor election under Rev. Proc. 2011-29.

                                     LAW AND ANALYSIS

We decline to grant Taxpayer relief to make a late election under Rev. Proc. 2011-29 to
deduct 70 percent and capitalize 30 percent of the Contingent Fee paid by Seller. This
letter sets forth the primary reasons for declining to grant a favorable ruling.

The Service Has Discretion to Deny a Taxpayer Relief to Make a Late Election for
Which it Fails to Qualify

Sections 301.9100-1 through 301.9100-3 provide the standards the Commissioner will
use to determine whether to grant an extension of time to make an election. Section
301.9100-1(a) provides that an extension of time is available for elections that a
taxpayer is otherwise eligible to make. However, the granting of an extension is not a
determination that the taxpayer is otherwise eligible to make the 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 section 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 sections 301.9100-2 and
301.9100-3 to make certain regulatory elections. Section 301.9100-1(b) defines a
"regulatory election" as an election whose due date is prescribed by a regulation
published in the Federal Register, or a revenue ruling, revenue procedure, notice, or
announcement published in the Internal Revenue Bulletin.

In the interest of tax administration, the Commissioner has the discretion to deny a
taxpayer's request for relief to make a late election if the taxpayer does not meet the
requirements to make the relevant election. Section 301.9100-1(a). That specific issue
was addressed in the preamble to the final regulations. The preamble responded to a
commentator urging that the regulations clarify that requests for late elections not be
denied because the taxpayer fails to meet the requirements to make the election. T.D.
8742, 1998-1 C.B. 388. In relevant part, the preamble to T.D. 8742 states:
PLR-123597-21                                 6


       The commentator suggested that a request for extension of time to make
       an election should not be denied on the basis that the taxpayer fails to
       qualify for the underlying election. The commentator noted that the
       regulations provide that the granting of § 301.9100 relief is not a
       determination that the taxpayer is otherwise eligible to make the election.
       This suggested modification has not been adopted. The IRS and the
       Treasury Department believe it is in the interest of sound tax
       administration to deny § 301.9100 relief when it becomes apparent in
       considering the request for an extension of time that the taxpayer is not
       otherwise eligible to make the election. This ensures that the resources of
       the IRS are brought to bear in the resolution of the issue regarding
       eligibility at the earliest stage of the administrative process.

Thus, where a taxpayer seeks relief to make a late election for which it is apparent that
it does not qualify, the Service, in the interest of sound tax administration, will deny such
relief. The remainder of this adverse letter explains why Taxpayer fails to qualify to
make the safe-harbor election under Rev. Proc. 2011-29.

Section 1.263(a)-1(e)(1) Governs the Taxation of the Contingent Fee, Thereby
Rendering Section 1.263(a)-5's Rules Inapplicable

The section 1.263(a)-5 regulations that Taxpayer relies upon apply to amounts paid to
facilitate an acquisition of ownership interest in a taxpayer and other transactions
specified in section 1.263(a)-5(a). However, section 1.263(a)-5(b)(2) provides that an
amount required to be capitalized by section 1.263(a)-1 does not facilitate a transaction
described in section 1.263(a)-5(a). Simply put, the rules upon which Taxpayer relies
(rules governing transactions specified in section 1.263(a)-5(a)(1)-(10)) do not apply
because section 1.263(a)-1(e)(1), as explained below, causes the Contingent Fee at
issue to be capitalized as a cost that reduces the amount realized on the sale of Parent
stock.

Section 1.263(a)-1(e)(1) states that commissions and other transaction costs paid to
facilitate the sale of property are not currently deductible under section 162 or 212.
Instead, the amounts are capitalized costs that reduce the amount realized in the
taxable year in which the sale occurs. Section 1.263(a)-1(e)(1) states, "These amounts
are not added to the basis of the property sold." See also Spreckels v. Helvering, 315
U.S. 626 (1942).

The Contingent Fee paid by Seller falls squarely within section 1.263(a)-1(e)(1). The
provision applies to commissions and other transaction costs paid to facilitate a sale of
property. The Contingent Fee was paid pursuant to the Sale Agreement that obligated
Seller to pay the fee and other transaction costs upon closing, either out of its own
funds or out of funds that it would otherwise receive from Buyer for and upon the sale of
Parent. Such selling costs must be accounted for as an offset to sales proceeds
PLR-123597-21                                   7

payable to Selling Shareholders under section 1.263(a)-1(e)(1) and longstanding case
law.

In evaluating the origin of the costs incurred by a majority shareholder in a valuation
proceeding under state law to acquire interests of a minority shareholder, the Supreme
Court observed in Woodward v. Comm'r, 397 U.S. 572, 575: "It has long been
recognized, as a general matter, that costs incurred in the acquisition or disposition of a
capital asset are to be treated as capital expenditures." The Court explained that legal,
brokerage, accounting and similar costs of acquisitions and dispositions are treated by
courts as capital expenditures because "such ancillary expenses incurred in acquiring or
disposing of an asset are as much part of the cost of that asset as is the price paid for
it." Woodward, at 576. See also Spreckels, 315 U.S. 626, 630 (commissions paid by a
taxpayer selling securities is a reduction in amount realized); Helvering v. Union Pac. R.
Co., 293 U.S. 282, 286 (Court determined that commissions and discount from debt
issuances were similar to sales commissions that are treated as reducing sales
proceeds "to arrive at the net capital profit or loss for purposes of computing the tax"
from the sale of property, causing the debt issuance costs to be treated as an
adjustment to the proceeds realized from the debt.); Spangler v. Comm'r, 323 F.2d 913,
921 (9th Cir. 1963) ("the capitalization of business selling expenses is a long
established and accepted requirement"); Davis v. Comm'r, 151 F.2d 441, 443 (8th Cir.
1945) (section 212 predecessor provision does not disturb the treatment of selling
commissions as an offset against sales price); INDOPCO, Inc. v. Comm'r, 503 U.S. 79,
84 (1992) (the goal of the Internal Revenue Code is to match expenses with the
revenues that the expenditure generates).

Section 1.263(a)-1(e)(1) and case law precludes the tax treatment that Taxpayer seeks.
The Contingent Fee is precisely the type of cost that is required to be capitalized as an
offset to the amount realized by Seller and Selling Shareholders so as to match the
sales proceeds with the cost of generating that revenue. Given that the Contingent Fee
is capitalized as a cost paid to facilitate the sale of property under section 1.263(a)-
1(e)(1), the rules in section 1.263(a)-5 do not apply. See section 1.263(a)-5(b)(2).
Thus, the Duplicative Tax Benefit sought by Seller and Taxpayer is neither allowed nor
justified.


Section 1.263(a)-1(e) and Supreme Court Authority on the Capitalization of Selling
Costs Are Not Rendered Inapplicable Based Upon Taxpayer's Claim That the
Contingent Fee Was Its Cost for Section 162 or Section 263(a) Purposes

Taxpayer argues that the well-established tax law treating selling cost as an offset to a
seller's amount realized is not applicable where the costs are the costs of the sold
target. Taxpayer argues that section 1.263(a)-1(e)(1) can apply to the Contingent Fee
only if it is first established that the cost is that of the Selling Shareholders, and not the
cost of Taxpayer. Taxpayer claims that the Contingent Fee was its cost because it
undertook the contractual obligation to pay Financial Advisor and it benefitted from the
PLR-123597-21                                 8

payment of those costs. Thus, Taxpayer claims that it should be able to deduct 70
percent of the costs under Rev. Proc. 2011-29 and section 162 and capitalize 30
percent of the costs under that revenue procedure and section 1.263(a)-5.

Taxpayer's contention is not supported by relevant law. Nothing in the language of
section 1.263(a)-1(e) or relevant case law suggests that the treatment of selling cost as
an offset against a seller's amount realized is negated by causing a related party to
contractually bear those costs. However, even if section 1.263(a)-1(e)(1) operated as
Taxpayer posits, the controlling case law on which party may deduct a section 162 cost
requires looking beyond which of two related parties contracted to pay the costs and
whether the contracting party obtained a benefit.

Taxpayer's contentions place unjustified significance on whether a controlled entity
contracts to pay or in fact pays a cost.

       (a) The Deductibility of Third-Party Costs Is Not Controlled by Which Related
           Party Contracted to Pay or Paid the Cost

Section 162(a) allows a deduction for the ordinary and necessary business expenses
paid or incurred during the taxable year in carrying on a trade or business. To be
deductible as ordinary and necessary, an expense 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).

Close scrutiny is given to the treatment of third-party expenses involving corporations
and their controlling shareholder(s). Hood v. Comm'r, 115 T.C. 172, 179 (2000). In
Hood, the Tax Court examined whether a corporation could deduct legal fees it incurred
to help defend a controlling shareholder against criminal charges. The court determined
that the payments were nondeductible constructive dividends to the shareholder
because the expenditures were for the primary benefit of the shareholder. Consistent
therewith, the Service's position is that if a target corporation pays expenses for the
benefit of an individual shareholder who engaged parties to provide financial services
related to his transfer of ownership in a tax-free reorganization, then the payment of the
costs by the target company is a constructive dividend to the individual for the benefit of
transferring his ownership interests. Rev. Rul. 75-421, 1975-2 C.B. 108. This logically
follows from the well-established law that requires a party to capitalize costs of effecting
a sale of property or other capital transactions.

In related party settings, courts have regularly rejected the notion that the party that
contractually obligates itself to pay a third-party expense is necessarily the rightful party
to take a section 162 deduction for the expense. Deputy v. du Pont, 308 U.S. 488, 496
(1940); Interstate Transit Lines v. Comm'r, 319 U.S. 590, 594 (1943); Swed Distributing
Company v. Comm'r, 323 F.2d 480, 483 (5th Cir. 1963). In evaluating which related
party is the appropriate party to take a section 162 deduction, courts generally have
focused on the connection of the expense to the respective businesses of those parties.
PLR-123597-21                                 9

Deputy v. du Pont, 308 U.S. 488, 494 - 496 (1940); Interstate Transit Lines, 319 U.S.
590, 594. Courts do not assume (as Taxpayer asserts here) that the identity of the
contracting party is determinative of which party is entitled to the deduction of the third-
party expenditure.

The Supreme Court has authoritatively spoken to this issue. The Court in du Pont ruled
that an individual shareholder could not deduct certain costs associated with funding a
stock compensation program of a corporation, of which he owned 16 percent, even
though he contractually bore and benefitted from the expenditures made. In analyzing
the language of section 23, the predecessor provision to section 162, the Court
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. It stated:

       One of the extremely relevant circumstances is the nature and scope of
       the particular business out of which the expense in question accrued. The
       fact that an obligation to pay has arisen is not sufficient. It is the kind of
       transaction out of which the obligation arose and its normalcy in the
       particular business which are crucial and controlling.

du Pont, 308 U.S. at 496.

Three years later, the Court in Interstate Transit Lines reiterated its position that a
shareholder's agreement to pay costs of a subsidiary is not determinative of whether the
taxpayer is entitled to a deduction. It stated,

       The mere fact that the expense was incurred under contractual obligation
       does not of course make it the equivalent of a rightful deduction
       under § 23(a). That subsection limits permitted deductions to those paid
       or incurred 'in carrying on any trade or business.' The origin and nature,
       and not the legal form, of the expense sought to be deducted, determines
       the applicability of the words of § 23(a).

Interstate Transit Lines, 319 U.S. at 594.

Similar reasoning was adopted by the Tax Court in Square D Company v. Comm'r, 121
T.C. 168 (2003), a case that is instructive because it involved a situation in which the
Service sought to preclude a subsidiary from amortizing borrowing related costs that
were originally contractually borne and paid by its parent company. The costs were
contractually borne by the parent company because the subsidiary was not yet in
existence at the time the loan commitment was entered. The Tax Court concluded that,
"[u]nder the circumstances of this case, where the loan acquisition costs were incurred
on behalf of petitioner and then paid by petitioner, it is appropriate to allow petitioner to
deduct the costs it paid." Square D Company, 121 T.C. at 201. Notably, the court
viewed the transaction costs of the lending transaction to be those of the ultimate
PLR-123597-21                                  10

borrower. The court's conclusion logically followed from the fact that the subsidiary (not
the parent company) was the party that obtained the loan proceeds. The decision is
instructive as the court looked beyond the nominal obligation of the parent to pay the
costs and treated the costs as capitalized and amortizable costs of the borrower,
consistent with Supreme Court precedent that treats debt issuance costs as capitalized
costs of the debt issuer. Helvering v. Union Pac. R. Co., 293 U.S. 282, 286.

       (b) Consistent with Well-Established Law Addressing the Treatment of Costs of
           Selling Property, the Contingent Fee Was Directly and Proximately
           Connected to and Arose From Seller's Activity of Investing in and Selling
           Portfolio Companies


Consistent with section 1.263(a)-1(e)(1) and law that treats commissions and other
transaction costs as capitalized cost of selling property, the Contingent Fee is not
appropriately treated as Taxpayer's cost. Rather, the Contingent Fee originated from
and was paid to facilitate a sale and to generate substantial proceeds for Seller. The
Seller's activity of buying and then selling businesses was the genesis of the Contingent
Fee and necessarily must be accounted for, consistent with longstanding law, as a cost
that offsets the amount realized from the sale. The costs directly and proximately
related to Seller's selling activity. By contrast, Parent along with Taxpayer, as its
subsidiary, were simply the objects of the sale; Taxpayer did not partake in sales
proceeds that were the ultimate objective of the Seller's business of investing in Parent
and Taxpayer, along with other portfolio companies.6

It is noteworthy that even the amount of the compensation paid to Financial Advisor was
directly linked to and dependent upon (a) the occurrence of a sale, and (b) the amount
of sales proceeds generated. In the negotiations, Seller's representatives discussed,
consulted, reviewed, and approved sale transaction terms sent to Buyer. The nexus
between the selling costs and Seller's business activity is particularly pronounced where
Seller operated as a fund that seeks to profit from the purchase and sale of portfolio
company businesses. In that sense, it is difficult to imagine a cost more directly and
proximately related to that business activity than the Contingent Fee and other costs of
facilitating the sale under section 1.263(a)-1(e)(1).7



6
  The Tax Court in Plano Holding LLC v. Comm'r, T.C. Memo. 2019-140, addressed the attempt
by a buyer to treat investment banking fees as being partially deductible success-based fees of
the acquired company. The court rejected the buyer's argument and characterized the fees
paid as akin to a finder's fee for the investment banking firm's legwork to find the investment
opportunity.
7
  Barber, Frank and Goold, Michael, The Strategic Secret of Private Equity, Harvard Business
Review, 53-61 (Sept 2007) (explaining the strategic benefits of the private equity model that
involves raising capital from investors to buy and sell businesses, usually holding such
businesses for a finite time period of ten years or less).
PLR-123597-21                                   11

By contrast, the Contingent Fee was only indirectly or incidentally related to Taxpayer's
business activity. The fee paid to the Financial Advisor was directly dependent upon
and determined by the success of and sales proceeds generated by the sale of Parent
stock, not in respect of any operational performance metric or activity of Taxpayer or its
Parent. Although Taxpayer represents that it considered new ownership to be
beneficial to its future growth prospects, that was an incidental and indirect benefit from
the sale of Parent, and along with it, Taxpayer. Accordingly, the expense is not a
section 162 deduction of Taxpayer.8


                                       CONCLUSION

Based on the facts and representations submitted, we conclude that Taxpayer has not
satisfied the underlying requirements for making the election under Rev. Proc. 2011-29
to deduct 70 percent and capitalize 30 percent of the amount of the success-based
fees. Accordingly, Taxpayer's request for an extension of time to make a late election
under section 301.9100 for Year 1 is denied.

Except as expressly provided herein, no opinion is expressed or implied concerning the
federal income tax consequences of the transactions described above. Among other
matters, this ruling expresses no opinion upon the treatment of other selling costs paid
by Seller or Selling Shareholders but contracted for by Taxpayer. This ruling is directed
only to the taxpayer that requested it. Section 6110(k)(3) of the Code provides that it
may not be used or cited as precedent.




8
 Contrary to Taxpayer's assertion, this is not a case in which the parent corporation is
precluded from deducting a section 162 expense of a subsidiary. Cf. Rev. Rul. 84-68, 1984-1
C.B. 31 (a parent corporation was precluded from deducting compensation expense of a
subsidiary even though the parent obtained an indirect benefit). That line of authority has no
application here because the Contingent Fee was not a section 162 expense of Taxpayer and
because section 1.263(a)-1(e)(1) specifically treats the cost as a reduction to the Selling
Shareholders' amount realized.
PLR-123597-21                                 12


In accordance with the terms of a power of attorney on file in this office, a copy of this
letter is being sent to your authorized representatives.



                                       Sincerely,



                                       Patrick White
                                       Senior Counsel, Branch 1
                                       (Income Tax & Accounting)




cc: