What is IRC 267?
What is the loss disallowance rule between related parties?
How does IRC 267 work?
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Table of Contents
What Is IRC 267
IRC 267 refers to Section 267 of the Internal Revenue Code titled “Losses, expenses, and interest with respect to transactions between related taxpayers”.
IRC Sec 267 provides for a loss disallowance rule by stating that:
No deduction shall be allowed in respect of any loss from the sale or exchange of property, directly or indirectly, between persons specified in any of the paragraphs of subsection (b).
In other words, if the exchange of property takes place between persons having a direct or indirect relationship as outlined in IRC 267(b), then the tax deduction for losses is disallowed.
However, this general rule does not apply to any losses resulting from the sale or exchange of property of a distributing corporation to the extent it is distributing its property to fully liquidate the business.
Now, let’s look at an overview of Section 267 IRC.
IRC 267 Overview
Section 267 Internal Revenue Code is a complex provision having many paragraphs and subparagraphs.
Here is the outline of what you find in 267 IRC:
- IRC 267(a) In general
- (1)Deduction for losses disallowed
- (2)Matching of deduction and payee income item in the case of expenses and interest
- (3)Payments to foreign persons
- IRC 267(b) Relationships
- IRC 267(c) Constructive ownership of stock
- IRC 267(d) Amount of gain where loss previously disallowed
- (1)In general
- (2)Exception for wash sales
- (3)Exception for transfers from tax indifferent parties
- IRC 267(e) Special rules for pass-thru entities
- (1)In general
- (2)Pass-thru entity
- (3)Constructive ownership in the case of partnerships
- (4)Subsection (a)(2) not to apply to certain guaranteed payments of partnerships
- (5)Exception for certain expenses and interest of partnerships owning low-income housing
- (6)Cross reference
- IRC 267(f) Controlled group defined; special rules applicable to controlled groups
- (1)Controlled group defined
- (2)Deferral (rather than denial) of loss from sale or exchange between members
- (3)Loss deferral rules not to apply in certain cases
- (4)Determination of relationship resulting in disallowance of loss, for purposes of other provisions
- IRC 267(g) Coordination with section 1041
How IRC 267 Works
Let’s look at some of the key provisions of IRC Code 267 to get a better understanding of what it entails.
The Internal Revenue Code § 267 establishes the rule on how you can deduct losses or expenses relating to transactions between related parties.
The main purpose for Congress to enact this provision is to prevent the recognition of losses by a taxpayer if the taxpayer attempts to recognize a loss on a property without truly modifying its position in relation to the property in question.
The second reason is to provide taxpayers relief by allowing the matching of expenses with income incurred between related parties.
The general rule conveyed however in IRC 267 is to prohibit or restrict the recognition of losses on property in related party transactions.
IRC 267 Restrictions
IRS 267 targets two types of transactions between related parties where a loss deduction is disallowed.
The first type of transaction is the sale of a property at a loss.
Any loss from the sale or exchange of property between related parties is disallowed.
However, when the related party eventually sells the property to an unrelated party, they may use disallowed losses to offset their gains.
The second type of restriction in 267 IRS is relating to unpaid expenses and interest.
A related party cannot make any deductions for expenses or interest that was unpaid.
For the interest or expense to be deductible, one related party must recognize it as an expense and the other as an income (there needs to be the matching of income and deductions for transactions between related parties).
The “persons” targetted in IRC 267(a)(1) are:
- Family members
- An individual and a corporation in which the individual owns more than 50% in value of stocks
- Two corporations that are part of the same group (controlled group)
- The grantor and a fiduciary of a trust
- A fiduciary of a trust and fiduciary of another trust
- A fiduciary of a trust and beneficiary of the same trust
- A fiduciary of a trust and a corporation in which the trust or grantor owns more than 50% in value of stocks
- A person and an organization to which Section 501 applies and is controlled by members of the same person’s family members
- A corporation and a partnership if the same person or persons own more than 50% in value of the corporation stock and 50% of the capital interest or profit interest of the partnership
- An S corporation and another S corporation if the same person or persons own more than 50% in value of stocks
- An executor of an estate and a beneficiary of the estate (except for the sale or exchange in satisfaction of a pecuniary bequest)
IRC 267(c) outlines the rule relating to constructive ownership.
The common constructive ownership rule will apply in the following situations:
- A taxpayer constructively owns stock in a corporation for a spouse, brother, sister, lineal descendant, ancestor
- A taxpayer constructively owns his or her stocks by a partnership, corporation, trust, or estate
- A taxpayer constructively owns stock owned by a partner
IRC 267(f) defines the notion of “controlled group”.
A controlled group under Section 267 of the Internal Revenue Code is defined as:
- A parent and subsidiary controlled group where one or more corporations are connected to the parent corporation through stock ownership where at least 50% of the voting stocks or 50% of the value of the stocks are owned by one of the other corporations and the common parent owns at least 50% of votes or value in the shares of at least one other corporation
- A brother and sister controlled group where two or more corporations having five or fewer individuals that own at least 50% of votes or value of the shares
- A combined group of parent/subsidiary and brother/sister
Exceptions To IRC 267 Loss Disallowance Rule
Let’s look at some exceptions that apply with respect to the general rule outlined in Internal Revenue Code Section 267.
The first is that a deduction for losses on the sale or exchange of property between related persons is disallowed unless the parties are members of a controlled group.
In that case, the loss is deferred.
The loss can be recognized when the transferor corporation can recognize its loss when the transferred corporation transfers the property outside of the group.
Second, the loss can be recognized in the case of a corporation making a distribution in the context of complete liquidation.
Another point to consider is that if a non-related taxpayer acquires property from a related person suffering a loss that is disallowed, then the transferee taxpayer will recognize gains only to the extent the gain exceeds the amount of the loss realized by the transferor.
IRC Section 267 Takeaways
So, what is the rule in IRC 267?
How does the IRC 267 loss disallowance rule work?
In summary, the general rule under Internal Revenue Code 267 is that related parties cannot recognize losses when selling or exchanging property.
Related parties include:
- Members of a family
- An individual and a corporation
- Two corporations
- Grantor and fiduciary of a trust
The IRC 267 related party transactions is a complex provision and if you need to get advice on how it applies to you, you should consult a tax attorney or tax professional.
This article is intended to give you general information so you can get started in your research.
I hope I was able to answer your question about what does IRS 267 relate to, what is a related party loss, and how it works.
Let’s look at a summary of our findings.
Understanding IRC 267 Related Party Transactions
If you enjoyed this article on IRS Section 267, I recommend you look into the following legal terms and concepts. Enjoy!
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