IRS Grants Extension for Tax-Exempt Controlled Entity Election Under § 168(h)(6)(F)(ii)

IRS Grants 60-Day Extension for Late Tax-Exempt Entity Election

The IRS granted a 60-day extension under §§ 301.9100-1 and 301.9100-3 to a taxpayer seeking to make a late election under § 168(h)(6)(F)(ii) to avoid treatment as a tax-exempt entity. The IRS ruled that the taxpayer acted reasonably and in good faith by relying on a qualified tax advisor, and that granting relief would not prejudice the government’s interests. The election may now be filed with an amended return. This ruling is non-precedential.

The Taxpayer’s Missed Election: A Timeline of Errors

The taxpayer, a corporation formed on Date 2, was wholly owned by a tax-exempt organization. Its operating agreement explicitly prohibited treating any portion of its project as "tax-exempt use property" under § 168(h), which defines property leased to tax-exempt entities with lease terms exceeding three years as subject to mandatory Alternative Depreciation System (ADS) rules.

Firm 2 prepared the taxpayer’s federal tax returns for Year 1 and Year 2, including those of its subsidiaries, Entity 1 and Entity 2. Despite this responsibility, Firm 2 omitted the § 168(h)(6)(F)(ii) election, which allows a taxpayer to disregard tax-exempt use property rules if the leased property is predominantly used in an unrelated trade or business (UBI). The election must be filed with a timely return or extension.

The taxpayer believed Firm 2 had filed a timely extension for its Taxable Year 1 return, but no extension was actually submitted. The failure to file the extension left the taxpayer unable to make the § 168(h)(6)(F)(ii) election on time, as the election requires a timely filed return or extension. After the unextended due date, the taxpayer engaged Firm 1 to prepare its Form 1120 for Taxable Year 1, but the missed election opportunity had already occurred.

Why the IRS Granted Relief: Reasonable Reliance and Good Faith

The IRS granted the taxpayer’s request for a 60-day extension under § 301.9100-3, which permits relief for late regulatory elections when the taxpayer demonstrates reasonable action, good faith, and no prejudice to the Government’s interests. Under § 301.9100-1, regulatory elections—such as the § 168(h)(6)(F)(ii) election—must generally be made on a timely filed return or extension. However, § 301.9100-3(a) provides an exception if the taxpayer can show that their failure to comply was due to reasonable reliance on a qualified tax advisor and that granting relief would not harm the IRS’s ability to assess tax.

The taxpayer argued that their missed election resulted from reliance on Firm 2’s erroneous advice regarding the timely filing of an extension, and that the Government’s interests were not prejudiced because the election could still be made retroactively without loss of revenue. The IRS concluded that these standards were satisfied, noting that the taxpayer’s actions were not willful or negligent but rather stemmed from a good-faith mistake in interpreting filing requirements. The absence of any detrimental impact on tax collection further supported the grant of relief.

What This Ruling Means for Tax-Exempt Controlled Entities

Tax-exempt controlled entities—typically for-profit subsidiaries owned by tax-exempt organizations such as hospitals or universities—must navigate complex depreciation rules when leasing property to their tax-exempt parents or affiliates. The § 168(h)(6)(F)(ii) election is critical for these entities because it allows them to avoid "tax-exempt use property" treatment under § 168(h), which would otherwise force them into the Alternative Depreciation System (ADS) with longer recovery periods and straight-line depreciation. Without this election, property leased to a tax-exempt entity for more than three years is automatically subject to ADS, increasing taxable income in early years due to slower depreciation and eliminating access to bonus depreciation.

This ruling underscores the risks of relying solely on tax advisors for regulatory elections. The IRS granted relief under § 301.9100-3 because the taxpayer’s failure to file the § 168(h)(6)(F)(ii) election stemmed from a good-faith mistake in interpreting filing requirements—not willful neglect or negligence. However, the IRS emphasized that such relief is not guaranteed, particularly when taxpayers fail to document their reliance on professional advice or when the government’s interests could be prejudiced. Tax-exempt controlled entities should therefore maintain contemporaneous records of all tax advice received and ensure that elections are filed timely, even when relying on third-party preparers.

Missing deadlines for this election can have significant financial consequences. Tax-exempt controlled entities that lease property to their tax-exempt affiliates for more than three years risk being forced into ADS depreciation, which extends recovery periods and eliminates bonus depreciation eligibility. While the IRS has shown willingness to grant extensions under § 301.9100-3 when taxpayers act reasonably and in good faith, such relief is discretionary and not guaranteed. The absence of prejudice to the government’s interests—such as no loss of tax revenue—was a key factor in this ruling, but future cases may not share the same outcome.

Importantly, this ruling is non-precedential and cannot be cited as authority under § 6110(k)(3). Tax-exempt controlled entities should treat it as a cautionary example rather than a binding precedent. The IRS’s decision reflects a narrow application of § 301.9100-3 relief based on specific facts, and other taxpayers with different circumstances may face a different outcome. For entities navigating these rules, the lesson is clear: proactive compliance, thorough documentation, and timely filing are essential to avoid costly depreciation adjustments and potential disputes with the IRS.

Key Takeaways for Tax Practitioners

Tax practitioners should internalize these lessons from the PLR to avoid costly compliance failures:

First, verify that regulatory elections—such as the § 168(h)(6)(F)(ii) election for tax-exempt use property—are made timely and correctly. Missing deadlines can trigger mandatory Alternative Depreciation System (ADS) treatment under § 168(g), resulting in longer recovery periods and lost bonus depreciation.

Second, confirm that any requested extensions—such as those under § 301.9100-3—are properly filed. The IRS grants relief only when taxpayers act reasonably and in good faith, supported by contemporaneous documentation.

Third, recognize that § 301.9100-3 relief is available for late elections, but only if the taxpayer demonstrates reasonable reliance and prompt action after discovering the error. Relief is not automatic and hinges on the facts presented.

Fourth, when relying on a PLR, attach both the ruling and the election statement to future returns. Failure to do so may invalidate the relief granted and expose the taxpayer to retroactive adjustments.

Finally, remember that PLRs are non-precedential under § 6110(k)(3). Treat them as guidance for specific fact patterns, not as binding authority for broader application. Each taxpayer’s circumstances may yield a different outcome.