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Taxpayers engaging in capital As demonstrated in these ex- form of supporting documentation for
transactions frequently issue debt amples, the choice of approach in this an allocation, but that the determination
concurrently with the capital transac- area can have substantive consequenc- of whether the documentation require-
tion. Investment bankers may assist the es to a taxpayer’s taxable income. ment is met is based on all the supporting
taxpayer in negotiating and obtaining documentation provided by the taxpayer.
this financing and may be compensated Traditional allocation of Examples of evidence used to substantiate
for these services with the success-based success-based fees an allocation may include retainer agree-
fee contingent on the capital transaction The Rev. Proc. 2011-29 safe harbor is ments, invoices, lists of potential buyers,
rather than any separately stated fee. an optional election. At least in theory, transaction timelines, presentations, meet-
Under Regs. Sec. 1.263(a)-5(c)(1), an taxpayers are free to pursue their own ing agendas, taxpayer records, the files of
amount paid to facilitate a borrowing allocation of success-based fees if they the attorneys, and board meeting minutes.
facilitates only the borrowing and is not can meet the Regs. Sec. 1.263(a)-5(f) In CCA 201830011, the taxpayer
treated as facilitating any related trans- documentation requirement discussed treated 92% of a success-based fee as
actions. If some piece of a success-based above. However, taxpayers have no way nonfacilitative and 8% as facilitative. The
fee relates to services performed in in- to be certain that they have assembled taxpayer’s documentation for this treat-
vestigating or otherwise pursuing a bor- sufficient documentation to satisfy the ment consisted of (1) an allocation letter
rowing rather than a covered transaction, IRS’s apparently exacting standards, from the investment banker estimating
then the Rev. Proc. 2011-29 safe harbor and the consequences of failing to the amount of time it spent on various
arguably does not apply to that portion meet the documentation requirement activities relating to the transaction and
of the fee. There is no clear guidance can be severe. (2) a Microsoft PowerPoint presentation
on whether it is necessary to allocate The regulations do not mandate that the investment banker presented to
a success-based fee between a covered that certain types of records be includ- the taxpayer’s board and that contained
transaction and a borrowing and, if such ed, but they do state that the docu- basic information regarding the taxpayer
an allocation is necessary, the methodol- mentation must consist of supporting and explored possible acquisition strate-
ogy that should be used. records (e.g., time records, itemized gies. The IRS concluded that the taxpayer
The lack of guidance in this area is invoices, or other records) that identify failed to meet the documentation require-
meaningful because there are several (1) the activities performed by the ment and was required to treat 100% of
conceivable approaches that may or service provider; (2) the amount of the success-based fee as an amount that
may not be supportable. To illustrate the fee (or percentage of time) that is facilitated the transaction. In so conclud-
some potential approaches by example, allocable to each of the various activi- ing, the IRS stated that the investment
consider a $1 million success-based fee, ties performed; (3) where the date the
of which 10% is appropriately treated as activity was performed is relevant to
facilitating a borrowing: understanding whether the activity
1. The taxpayer could treat all of the facilitated the transaction, the amount
success-based fee as eligible for the of the fee (or percentage of time) that
safe harbor (i.e., $700,000 as nonfa- is allocable to the performance of that
cilitative, $300,000 as facilitative, and activity before and after the relevant
$0 as related to the borrowing). date; and (4) the name, business ad-
2. The taxpayer could first allocate a dress, and business telephone number
portion of the fee to the borrowing of the service provider.
and apply the safe harbor to the and 200953014, the IRS stated that
In Letter Rulings 200830009
PHOTO BY EUGENESERGEEV/GETTY IMAGES 3. The taxpayer could first apply the necessary to support an allocation.
remaining fee (i.e., $630,000 as
detailed time records are not always
nonfacilitative, $270,000 as facilita-
tive, and $100,000 as related to the
borrowing).
In Technical Advice Memorandum
(TAM) 201002036, the IRS advised
safe harbor and allocate the debt por-
that allocation spreadsheets com-
tion from the nonfacilitative amount
pleted by service providers allocating
their time between facilitative and
(i.e., $600,000 as nonfacilitative,
nonfacilitative activities are generally
$300,000 as facilitative, and $100,000
as related to the borrowing).
www.thetaxadviser.com “other records” that are an acceptable March 2023 17