IRS Grants Extension for Late Section 362(e)(2)(C) Election in Corporate Property Transfer

IRS Allows Late Election to Preserve Tax Basis in Corporate Property Transfer

The IRS granted a 75-day extension under §301.9100-3 for a taxpayer and transferee to make a late §362(e)(2)(C) election after failing to comply with regulatory deadlines. Without the election, the transferee’s basis in transferred property would be reduced to fair market value under §362(e)(2)(A), potentially increasing future taxable gains when the property is sold or depreciated. This ruling underscores the IRS’s discretion to grant relief for late elections when taxpayers act reasonably and in good faith, even beyond the automatic 6-month window under §301.9100-1.

The Taxpayer’s Dilemma: A Failed Election in a Section 351 Exchange

On Date 1, the taxpayer transferred property to a transferee in a transaction intended to qualify under Section 351(a), which allows tax-free exchanges of property for corporate stock if the transferors maintain control (80% or more) of the corporation immediately after the transfer. At the time of the transfer, the aggregate adjusted basis of the property exceeded its fair market value (FMV), creating a built-in loss.

Under Section 362(e)(2)(A), if property is transferred to a corporation in a Section 351 exchange and the transferee’s aggregate adjusted basis would exceed the property’s FMV, the transferee’s basis in the property is generally limited to its FMV, preventing the corporation from claiming depreciation or deductions based on the transferor’s higher basis. However, Section 362(e)(2)(C) provides an alternative: the transferor and transferee may jointly elect to reduce the transferor’s basis in the stock received (rather than the transferee’s basis in the property) by the amount of the built-in loss. This election preserves the transferee’s higher basis in the property, allowing for greater depreciation or amortization deductions.

To make this election, the parties must comply with strict procedural requirements under Regulation §1.362-4(d). First, the transferor and transferee must enter into a written, binding agreement before filing the election statement. Second, the transferor must file a Section 362(e)(2)(C) Statement with their timely filed federal income tax return for the year of the transfer. The taxpayer and transferee failed to enter into the required binding agreement and did not file the election statement by the deadline, leaving the transferee’s basis in the property subject to reduction to FMV under Section 362(e)(2)(A). Without the election, the taxpayer faced potential tax consequences, including reduced depreciation deductions and higher taxable gains upon a future sale of the property.

The Election’s Requirements: A Two-Step Process Under §1.362-4(d)

The IRS requires strict compliance with Section 362(e)(2)(C) to adjust a corporation’s basis in property received from a transferor. Without this election, the transferee’s basis in the property is capped at fair market value (FMV) under Section 362(e)(2)(A), limiting depreciation deductions and inflating taxable gains upon future disposition.

To make a valid election, the transferor and transferee must complete a two-step process outlined in Regulation §1.362-4(d):

1. Step 1: Written Binding Agreement The transferor and transferee must enter into a written, binding agreement before the due date (including extensions) of the transferor’s tax return for the year of transfer. This agreement must explicitly state the intent to elect Section 362(e)(2)(C) and specify the property subject to the election. The IRS treats this as a mandatory prerequisite—without it, the election is invalid.

2. Step 2: Filing the Election Statement The transferor must attach a Section 362(e)(2)(C) Statement to their timely filed original federal income tax return for the year of transfer. This statement must include:

   • A description of the transferred property,
   • The FMV and adjusted basis of the property,
   • The amount of built-in loss allocated to the transferor’s stock basis, and
   • The names and tax identification numbers of all parties.

These steps are critical because they ensure the IRS can verify the election’s validity. Missing either step—such as the binding agreement or the timely filed statement—results in the default Section 362(e)(2)(A) rule, where the corporation’s basis is reduced to FMV. For taxpayers, this means higher taxable gains upon sale and reduced depreciation deductions over time. The IRS has consistently denied relief for late elections where these requirements were not met, emphasizing the need for meticulous compliance.

IRS Discretion: Why the Extension Was Granted Under §301.9100-3

The IRS granted relief in PLR-114536-25 under §301.9100-3, which provides discretionary authority to extend deadlines for regulatory elections when taxpayers fail to comply due to reasonable cause. The Commissioner’s decision hinged on three core factors: the taxpayer and transferee acted reasonably and in good faith, the request was filed before the IRS discovered the error, and granting relief would not prejudice the government’s interests.

The IRS emphasized the taxpayer’s affidavits and representations demonstrating diligence in attempting to comply with the §1.362-4(d) election requirements. Unlike cases where relief is denied—such as when taxpayers miss deadlines due to negligence or late discovery of errors—the taxpayer here avoided accuracy-related penalties under §6662 by showing no intent to disregard filing obligations. The IRS’s focus on good faith effort contrasts with scenarios where relief is withheld, such as when a taxpayer’s failure stems from reliance on an advisor’s error without documenting follow-up or when the request is filed years after the deadline.

Conditions and Caveats: What Taxpayers Must Know

The IRS granted relief under §301.9100-3, but the extension comes with strict conditions. Taxpayers must file the election within 75 days of the PLR’s issuance date, ensuring no federal tax liability is lower than it would have been if the election had been timely made. The IRS explicitly disclaimed any opinion on the election’s substantive validity or the underlying §351 transaction’s qualification, leaving determinations to future audits.

The PLR is non-precedential and must be attached to the taxpayer’s return. Despite the extension, penalties and interest under §6662 (accuracy-related penalties) and §6601 (interest on underpayments) still apply. The IRS emphasized that relief was granted based on representations made by the taxpayer and advisors, but the Director retains discretion to verify all essential facts. No opinion was expressed on the basis or fair market value of assets, the §351 qualification, or the tax effects of making the election late under other Code provisions.

Implications for Corporate Taxpayers: Lessons from PLR-114536-25

The IRS’s decision in PLR-114536-25 underscores that §301.9100-3 relief for late elections is not automatic, even when taxpayers act reasonably and in good faith. The ruling confirms that while the IRS may grant discretionary extensions under §301.9100-3 for missed §362(e)(2)(C) elections, penalties and interest under §6662 (accuracy-related penalties) and §6601 (interest on underpayments) still apply. Taxpayers must therefore treat election deadlines as strictly mandatory, not merely aspirational.

For §351 transactions where a corporation’s basis in contributed property exceeds its fair market value (FMV), the §362(e)(2)(C) election is critical. This election allows transferors and corporations to allocate built-in losses to the transferor’s stock basis instead of reducing the corporation’s property basis, preserving higher depreciation or amortization deductions for the corporation. Missing this election forces the corporation’s basis to FMV under §362(e)(2)(A), potentially eliminating valuable tax deductions. Industries where this distinction matters most include M&A (asset acquisitions with undervalued assets), real estate (REIT formations), and technology (IP transfers), where built-in losses are common.

Taxpayers seeking §9100 relief for late elections should document all compliance efforts meticulously, including communications with advisors and internal deadlines. The IRS’s grant of relief in PLR-114536-25 relied on representations by the taxpayer and advisors, but the Director retains discretion to verify facts. While PLRs are non-precedential under §6110(k)(3), this ruling signals that reasonable cause—such as reliance on professional advice or unforeseen circumstances—may still carry weight in discretionary relief requests. However, taxpayers should not assume leniency; proactive compliance remains the safest path.