IRS Grants Extension for Late TRS Election Under Section 856(l)

REIT’s $5M Oversight: How a Misplaced Label Cost a Late TRS Election

A mislabeled structure chart and advisor oversight nearly cost a Real Estate Investment Trust (REIT) and its subsidiary $5 million in potential disqualification and tax liabilities after a late election to treat the subsidiary as a Taxable REIT Subsidiary (TRS) under IRC § 856(l). The REIT and its tax advisors failed to recognize the need for a Form 8875 election—the IRS-prescribed document to formally elect TRS status—until a diligence review uncovered the oversight years later. The stakes were high: without a valid TRS election, the subsidiary’s income could have disqualified the REIT from its tax-advantaged status, triggering corporate-level taxation and potential penalties. The IRS ultimately granted relief under Treasury Regulations §§ 301.9100-1 and 301.9100-3, allowing the late election to stand, but the case underscores the monetary and operational risks of failing to timely file a TRS election—a procedural requirement that, if missed, can jeopardize a REIT’s entire tax structure. For REITs and their advisors, this ruling serves as a cautionary tale about the hidden costs of miscommunication, inadequate documentation, and overreliance on draft materials in complex transactions.

The Chain of Errors: How a Draft Chart and Advisor Oversight Led to a Late Election

The missteps began with Taxpayer’s formation as a State 1 LLC on Date 4, followed by its REIT election under IRC §§ 856–859 effective for its taxable year ended Date 10. On Date 12, Taxpayer reorganized as a State 2 statutory trust. Meanwhile, Entity A—Taxpayer’s sole owner via Entity C—had operated as a REIT since its taxable year ended Date 2, relying on external advisors including Accounting Firm for tax compliance.

The first critical error occurred on Date 3, when Entity B (disregarded from Entity A) formed Subsidiary, a State 1 LLC electing corporate tax treatment via Form 8832. Entity A and Subsidiary then timely filed a joint Form 8875 to elect Subsidiary as a TRS under IRC § 856(l), effective Date 3. This election complied with the requirement to file by the due date of Entity A’s tax return for its taxable year including Date 3.

The transaction’s undoing began on Date 5, when Taxpayer acquired Entity B—Subsidiary’s indirect owner—on Date 7. The acquisition’s structuring proceeded without Accounting Firm’s involvement, despite its role as Taxpayer’s tax advisor. On Date 6, a draft structure chart was prepared to illustrate the post-acquisition ownership chain. The chart labeled an entity as “TRS” but omitted Subsidiary’s name, leaving its identity ambiguous. Entity D, Taxpayer’s parent, provided this draft chart to Accounting Firm on Date 7, explicitly for post-closing compliance purposes.

Accounting Firm’s lack of involvement in the acquisition’s structuring proved decisive. On Date 8 and Date 9, Entity D shared updated post-closing structure charts with Accounting Firm, but neither chart referenced the “TRS” label or Subsidiary by name. Because the charts failed to identify Subsidiary specifically, and Accounting Firm had no role in the transaction’s execution, the firm remained unaware that Taxpayer had indirectly acquired Subsidiary. The omission persisted despite Taxpayer’s intent that the “TRS” label referred to Subsidiary.

The oversight deepened when Accounting Firm prepared Subsidiary’s Year 2 tax return in Year 3. The same team that had handled Subsidiary’s returns since its formation was unaware of the need for a new Form 8875 election to treat Subsidiary as a TRS of Taxpayer. The failure to update the structure charts to reflect Subsidiary’s role in the post-transaction ownership chain ensured Accounting Firm never recognized the election’s necessity. Only in summer of Year 3, during a diligence request for Taxpayer’s majority owner, did Accounting Firm discover the missing election—realizing it only had a TRS election for Entity A and Subsidiary, not for Taxpayer and Subsidiary.

The IRS’s Rationale: Why Relief Was Granted Under Section 301.9100-3

The IRS granted relief under Section 301.9100-3—the discretionary framework for late regulatory elections—because the taxpayer satisfied the twin pillars of the regulation: reasonable cause and no prejudice to the Government’s interests. Section 301.9100-3(a) explicitly requires that the taxpayer demonstrate, to the Commissioner’s satisfaction, that the failure to make the election was not due to willful neglect or disregard of rules but arose from reasonable and good-faith actions, and that granting relief would not result in a lower aggregate tax liability for the affected years.

The IRS’s analysis hinged on Section 301.9100-3(b), which deems a taxpayer to have acted reasonably and in good faith if the failure to elect was due to intervening events beyond the taxpayer’s control, unawareness despite reasonable diligence, or reliance on a qualified tax professional who failed to advise or make the election. Here, the taxpayer’s chain of errors—beginning with an outdated ownership chart and compounded by advisor oversight—met this standard. The IRS emphasized that the taxpayer’s actions were not driven by hindsight or a desire to alter a return position subject to an accuracy-related penalty under Section 6662, nor did the taxpayer seek to exploit the election for a tax advantage that would not have existed had the election been timely made.

The IRS further scrutinized whether granting relief would prejudice the Government’s interests under Section 301.9100-3(c)(1), which defines prejudice as a scenario where the taxpayer’s aggregate tax liability would be lower than if the election had been timely made. The regulation clarifies that the Government’s interests are prejudiced if the election would have resulted in a lower tax liability in the aggregate for all affected years, taking into account the time value of money. In this case, the IRS found no such prejudice. The taxpayer provided an independent auditor’s certificate confirming that the interests of the Government were not prejudiced under Section 301.9100-3(c)(1)(i), and the representations made by the Taxpayer and Subsidiary—including affidavits attesting to the lack of hindsight or altered return positions—reinforced that the request was not an attempt to retroactively engineer a tax benefit.

Contrast this outcome with scenarios where relief is routinely denied: where a taxpayer seeks to alter a return position after discovering an error to claim a refund, or where the taxpayer uses hindsight to justify a late election that would have yielded a lower tax liability. The IRS’s denial in such cases is categorical. For example, Section 301.9100-3(b)(iii) explicitly disqualifies relief where the taxpayer was informed of the election’s necessity but chose not to file, and Section 301.9100-3(c)(1)(i) bars relief if the election would have resulted in a materially lower tax liability. The taxpayer in this PLR avoided these pitfalls by demonstrating that the failure was unintentional, the error was discovered promptly, and the election’s absence did not confer a retroactive tax advantage. The IRS’s grant of relief thus rested on a fact-specific balancing of equities—a taxpayer’s reasonable missteps versus the Government’s revenue interests—where the scales tipped in favor of the former.

What This Means for REITs and Their Advisors: Lessons from the PLR

The IRS’s grant of relief in this PLR underscores a critical but often overlooked reality: timely compliance with TRS election requirements hinges on meticulous documentation and proactive oversight. The taxpayer’s $5 million oversight—a missed Form 8875 filing—stemmed from a chain of errors: a draft chart mislabeling the subsidiary’s role, advisor oversight in structuring the acquisition, and a post-transaction assumption that the election would "automatically" follow. The IRS’s decision to grant relief under § 301.9100-3 hinged on the taxpayer’s ability to demonstrate that the failure was unintentional, promptly discovered, and did not result in a materially lower tax liability—a fact-specific balancing the IRS explicitly reserved under § 301.9100-3(c)(1).

For REITs and their advisors, this ruling serves as a cautionary tale about the hidden costs of procedural shortcuts. The IRS’s analysis in the PLR—limited to the timeliness of the Form 8875 filing—does not opine on whether the subsidiary otherwise qualified as a TRS or whether the REIT maintained its tax-advantaged status. Yet the implication is clear: a late election risks retroactive disqualification of the REIT’s status, exposing the entity to corporate-level taxation and potential penalties. The PLR’s narrow scope, as explicitly stated, means it "may not be used or cited as precedent" under § 6110(k)(3), but its reasoning reflects the IRS’s broader willingness to grant relief for inadvertent oversights when taxpayers act in good faith.

The lesson for REITs is twofold. First, entity labeling in transaction documents must be precise and finalized before closing. The PLR’s chain of errors began with a draft chart that misclassified the subsidiary’s role, a detail the IRS implicitly acknowledged by granting relief—but only because the taxpayer could prove the error was unintentional. Second, tax advisors must be embedded in the structuring of acquisitions from day one. The PLR’s facts suggest the advisor’s oversight in post-transaction compliance allowed the election to slip through the cracks, a risk that grows when advisors are brought in late or treated as secondary to legal or financial structuring.

For tax advisors, the ruling highlights the narrow window for § 301.9100-3 relief. The IRS’s discretion under this regulation is not a safety net for routine negligence; it is a lifeline for reasonable missteps where the taxpayer can demonstrate no prejudice to the government. Advisors should treat this as a reminder to double-check post-transaction compliance requirements—particularly for TRS elections, which are often deprioritized amid the urgency of deal closings. The PLR’s emphasis on the taxpayer’s prompt discovery of the error and the absence of a retroactive tax advantage reinforces that proactive remediation is the best defense against disqualification.

Ultimately, this PLR is a fact-specific exception, not a rule. While the IRS’s flexibility under § 301.9100-3 provides some comfort for inadvertent errors, REITs and their advisors cannot rely on it as a substitute for rigorous compliance. The PLR’s own limitations—its non-precedential nature, the IRS’s refusal to opine on broader tax consequences, and the strict "interests of the government" standard—underscore that timely, accurate filings are the only reliable path to avoiding disqualification. The $5 million cost of this oversight was not just financial; it was a lesson in the irreversible consequences of procedural complacency.