In Chief Counsel Advice 201830011 (CCA), the IRS denied a taxpayer a deduction for a success-based fee--an amount contingent on the successful closing of a transaction--paid to an investment banker. In general, a success-based fee must be capitalized to the extent it is paid to facilitate certain transactions. To deduct any part of the fee, a taxpayer must adequately substantiate the portion of the fee allocable to activities that did not facilitate the transaction.
The IRS concluded in the CCA that the investment banker’s allocation letter that estimated (because the investment banker did not keep time records) the percentage of the fee attributable to activities that did not facilitate the transaction, and that included a caveat stating that the letter should not be relied upon, was not adequate substantiation. The IRS required the taxpayer to capitalize the entire fee.
The documentation necessary to satisfy the substantiation requirements for success-based fees continues to be an area of focus for IRS examination teams. For any ‘non-covered transaction’ such as a Section 355 distribution, for example, or when a taxpayer is considering not electing the Rev. Proc. 2011-29 safe harbor, taxpayers should gather as much documentation as possible to support an allocation of success-based fees. Time reports and invoices are not strictly required, but documentation should provide specific information that supports the allocation.