IRS Grants Extension for Late RPTOB Election Under § 163(j)(7)(B)

IRS Allows Late Election for Real Property Trade or Business Under § 163(j)

The IRS granted a 60-day extension under Treas. Reg. § 301.9100-3 to a real estate partnership for a late § 163(j)(7)(B) election, allowing it to opt out of the 30% business interest deduction limitation for its Year 2 taxable year. Without relief, the taxpayer risked disallowance of significant interest deductions—potentially millions in lost deductions—due to an oversight in filing the required election. The ruling underscores the IRS’s willingness to grant § 9100 relief for late regulatory elections when taxpayers demonstrate reasonable cause.

The Taxpayer’s Oversight: A Costly Missed Election

The taxpayer, a limited liability company formed in Year 1 under State 1 law, operated as a partnership for federal income tax purposes. Its business centered on real property acquisition, development, rental, operation, management, and leasing across multiple projects in State 2. In Year 1, the taxpayer placed its personal and real property in service, and by Year 2, it had established itself as a real property trade or business under § 469(c)(7)(C)—a classification that would later prove critical.

For its Year 2 tax return, the taxpayer engaged an international certified public accounting firm (the “CPA Firm”) to prepare and file Form 1065. The taxpayer provided the CPA Firm with all necessary financial and operational data, including documentation confirming its status as a real property trade or business. Despite this, the CPA Firm failed to inform the taxpayer of the availability of the Real Property Trade or Business (RPTOB) election under § 163(j)(7)(B), which would have allowed the taxpayer to opt out of the 30% business interest deduction limitation imposed by § 163(j).

The oversight remained undetected until Year 3, when the taxpayer retained a different accounting firm to review its prior filings. Upon examining the Year 2 Form 1065, the new firm immediately recognized that the RPTOB election had not been made—despite the taxpayer’s clear eligibility. The taxpayer and its members were unaware the election was even available. The CPA Firm later acknowledged to the taxpayer that it had not informed the entity of the RPTOB election opportunity, despite having made a similar election for a related entity. The CPA Firm confirmed it was aware of the election’s availability for the taxpayer’s situation but did not extend that guidance.

Had the taxpayer known of the RPTOB election in Year 2, it would have made the election to preserve significant interest deductions—potentially millions in tax savings—before the limitations period closed.

The Legal Framework: § 163(j) and the RPTOB Election

The IRS’s decision in this case hinged on the interplay between Section 163(j)—which limits business interest deductions—and the Real Property Trade or Business (RPTOB) election, a specialized exception carved into the statute. Here’s how the legal framework shaped the outcome.

Under Section 163(j), enacted by the Tax Cuts and Jobs Act of 2017, most taxpayers face a 30% cap on business interest deductions, calculated as 30% of adjusted taxable income (ATI) plus business interest income. The provision was designed to curb aggressive interest deductions by large corporations and leveraged entities. However, Congress carved out exceptions for small businesses and certain industries, including real property trades or businesses (RPTOBs). For taxpayers who qualify and elect into this exception, business interest becomes fully deductible—but at a cost: they must use the Alternative Depreciation System (ADS) for real property, which extends recovery periods and reduces annual depreciation deductions.

The RPTOB election is defined in Section 163(j)(7)(B) as an election made by a trade or business described in Section 469(c)(7)(C). That section defines a real property trade or business as any activity involving the development, redevelopment, construction, reconstruction, acquisition, conversion, rental, operation, management, leasing, or brokerage of real property. The election must be made on a timely filed original federal income tax return and is irrevocable once made, per Treasury Regulation § 1.163(j)-9(d)(1). Taxpayers who fail to make the election forfeit the ability to deduct business interest beyond the 30% limitation, unless another exception applies.

The consequences of missing the election are significant. Without the RPTOB election, a taxpayer with substantial real estate holdings and high interest expenses could face millions in disallowed deductions, as interest that would otherwise be deductible becomes subject to the 30% cap. The election, therefore, serves as both a tax planning tool and a compliance requirement for qualifying taxpayers.

IRS’s Reasoning: Why the Extension Was Granted

The IRS granted the taxpayer’s request for a 60-day extension to file the RPTOB election under § 163(j)(7)(B) based on the taxpayer’s demonstration of reasonable and good-faith reliance on its CPA firm. The IRS interpreted § 301.9100-3(b)(1)(v), which permits relief when a taxpayer reasonably relies on a qualified tax professional who fails to make the election, as satisfied in this case. The taxpayer’s argument centered on its complete dependence on the CPA firm’s expertise, which had all necessary information to determine the election’s availability but failed to inform the taxpayer or include the election on the filed return.

The IRS further concluded that the government’s interests were not prejudiced, as the tax year remained open and the taxpayer’s aggregate tax liability would not be reduced by granting the extension. The election’s late filing did not result in a lower tax liability for the taxpayer when compared to a timely election, and the period of limitations on assessment had not yet closed. The IRS emphasized that the taxpayer did not act with hindsight or seek to alter a return position subject to accuracy-related penalties, reinforcing the absence of prejudice to the government.

Implications for Taxpayers and Practitioners

This ruling underscores the importance of taxpayers verifying that their tax professionals have considered all available elections, as the IRS granted relief here only after confirming the taxpayer acted reasonably and in good faith. Taxpayers should not rely solely on tax professionals for regulatory elections, as missed opportunities like the § 163(j)(7)(B) RPTOB election can lead to unnecessary limitations on business interest deductions. The non-precedential nature of this ruling—issued under Section 6110(k)(3)—means it cannot be cited as precedent and offers no assurance to other taxpayers facing similar situations.

To avoid such oversights, taxpayers should request a written list of elections considered by their preparer, particularly for complex provisions like § 163(j), where elections may carry significant tax consequences. This proactive step helps ensure no eligible elections are overlooked, reducing the risk of costly missed opportunities.