IRC 267 Related Party Loss Disallowance: Related Persons Practitioner Guide

IRC 267 is the principal statutory barrier to loss manufacturing within controlled economic groups. Under IRC 267(a)(1), no deduction is allowed for a loss from the sale or exchange of property between persons who are related within the meaning of IRC 267(b). The rule reaches family members, individuals and corporations they control, members of the same controlled group, trust relationships, S-corporation shareholders, partners and partnerships, and executors and estate beneficiaries -- in each case on the theory that a transaction between economically related parties does not represent a genuine arm's-length change in economic position sufficient to justify immediate loss recognition.

This guide is written for enrolled agents, CPAs, and tax attorneys who advise closely held businesses, family groups, trusts, and entities whose ownership structure may bring transactions within the IRC 267 net. It covers the full statutory framework: the disallowance rule and the timing mismatch rule of IRC 267(a), the related person definitions of IRC 267(b), the constructive ownership rules of IRC 267(c), the purchaser's offset under IRC 267(d), partnership and S-corp applications under IRC 267(e), and the reporting procedures on Form 4797 and Schedule D. All statutory citations and IRS guidance must be verified against current IRS.gov resources before reliance in any specific client matter. This guide is for informational purposes only and does not constitute legal or tax advice.

Section 1: The Disallowance Rule -- IRC 267(a)(1)

Statutory Text and Purpose

IRC 267(a)(1) provides 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 IRC 267(b). The statute is clear on its face: if the seller and buyer are related persons within the IRC 267(b) definitions, the loss is disallowed. There is no partial disallowance, no de minimis threshold, and no exception for transactions that the parties characterize as arm's length.

The policy rationale is the prevention of artificial loss generation within controlled economic groups while preserving economic reality. When a parent sells property to its wholly owned subsidiary at a loss, the parent has not changed its economic exposure to that property in any meaningful sense: it still controls the asset through its subsidiary. Allowing the parent to recognize a tax loss in those circumstances would give a tax benefit with no corresponding economic change. IRC 267 prevents that outcome by deferring loss recognition until the property leaves the controlled group.

In contrast, a sale of property between unrelated parties at arm's length produces a genuine change in economic exposure for the seller. If the selling price is below the seller's basis, the seller has incurred a real economic loss, and IRC 267 does not interfere with recognizing it.

Scope of the Disallowance

The IRC 267(a)(1) disallowance is broad in two dimensions. First, it applies regardless of the character of the loss: the disallowance reaches both capital losses (which would flow through Schedule D) and ordinary losses (which would flow through Form 4797 or ordinary income). The statute refers to "any loss" -- it does not distinguish by character. Second, the disallowance applies to both cash-basis and accrual-basis taxpayers. The IRC 267(a)(1) rule is triggered by the sale or exchange event, not by the taxpayer's method of accounting.

The phrase "directly or indirectly" in IRC 267(a)(1) extends the disallowance to transactions structured through intermediaries that produce the same economic result as a direct related party sale. A sale of property from Parent to an unrelated intermediary who immediately resells to Parent's subsidiary, structured to avoid IRC 267(b), would be analyzed under the substance of the transaction.

The Timing Mismatch Rule: IRC 267(a)(2)

IRC 267(a)(2) is a separate provision that applies to accrual-basis taxpayers. Under IRC 267(a)(2), an accrual-basis taxpayer cannot deduct an expense accrued and owed to a cash-basis related person until the amount is actually paid to the related person. The matching principle underlying IRC 267(a)(2) ensures that the payor's deduction and the payee's income recognition occur in the same tax year.

The classic application is compensation or management fees: an accrual-basis corporation accrues a $200,000 bonus to a cash-basis shareholder-employee in December but does not pay it until March of the following year. Under IRC 267(a)(2), the corporation cannot deduct the accrued bonus until the year of actual payment, regardless of when it accrued under its normal accounting method. The shareholder-employee includes the payment in income when received (cash method), which matches the corporation's deduction year.

IRC 267(a)(2) applies to a broad category of amounts owed between related persons: compensation, rent, interest, and any other accrued deductible amount. The related person definitions of IRC 267(b) apply to IRC 267(a)(2) as well. Practitioners advising closely held C corporations or S corporations should review accrued year-end payables to shareholder-employees and other related cash-basis persons for IRC 267(a)(2) compliance.

Section 2: Who Is a Related Person -- IRC 267(b)

IRC 267(b) lists the categories of related persons for purposes of IRC 267. The unifying concept across these categories is that the seller and buyer are economically related in a way that a sale between them may not represent a genuine arm's-length change in economic position. Practitioners should review each category that could plausibly apply before concluding that a transaction is outside IRC 267.

Family Members: IRC 267(b)(1) and IRC 267(c)(4)

Per IRC 267(b)(1), members of a family are related persons. The family definition for IRC 267 purposes is provided in IRC 267(c)(4): brothers, sisters, spouse, ancestors, and lineal descendants. This is a narrower definition than the common-law meaning of "family." Cousins are NOT included. Nieces and nephews are NOT included. More extended family relationships (aunts, uncles) are NOT included. The IRC 267(b)(1) family category is limited strictly to the persons listed in IRC 267(c)(4).

The phrase "ancestors and lineal descendants" covers parents, grandparents, and great-grandparents (ancestors) and children, grandchildren, and great-grandchildren (lineal descendants). A sale from a grandparent to a grandchild is between related persons under IRC 267(b)(1). A sale from a taxpayer to a nephew is not.

Individual and Controlled Corporation: IRC 267(b)(2)

Per IRC 267(b)(2), an individual and a corporation are related persons when the individual owns (directly or indirectly) more than 50% of the value of the outstanding stock. The threshold is strictly "more than 50%." An individual who owns exactly 50% of a corporation does NOT satisfy the related person test under IRC 267(b)(2). An individual who owns 50.1% satisfies the test.

Indirect ownership is determined under the constructive ownership rules of IRC 267(c), addressed in Section 3 below. A sole shareholder who owns 100% of a corporation is clearly related to the corporation under IRC 267(b)(2). A majority shareholder in a family corporation may also satisfy the threshold once attribution rules through spouses, children, and siblings are applied.

Controlled Group Members: IRC 267(b)(3)

Per IRC 267(b)(3), two corporations are related persons if they are members of the same controlled group (as defined in IRC 1563(a)). The IRC 1563(a) controlled group definitions cover parent-subsidiary controlled groups (generally, a chain of ownership where a parent owns 80% or more of each subsidiary, per IRC 1563(a)(1)) and brother-sister controlled groups (generally, five or fewer individuals, estates, or trusts own at least 80% of each corporation, per IRC 1563(a)(2)).

For the basic IRC 267(b)(3) related person determination, practitioners must apply the IRC 1563(a) controlled group definitions to the specific ownership facts. Note separately that IRC 267(f) contains special rules for controlled group members regarding the treatment of losses and deferrals within a consolidated group, as addressed in Section 5 below.

Trust Relationships: IRC 267(b)(4), (b)(5), and (b)(6)

Three trust-related categories apply under IRC 267(b):

• IRC 267(b)(4): A grantor and a fiduciary of the same trust are related persons. A taxpayer who establishes a trust and acts as, or is represented by, the trustee is related to that trust for IRC 267 purposes. Transactions between the grantor and the trust itself are within IRC 267.
• IRC 267(b)(5): A fiduciary and a beneficiary of the same trust are related persons. A trustee selling property to a trust beneficiary (or buying from a beneficiary) is within the related person net.
• IRC 267(b)(6): Two trusts that have the same grantor are related persons. Where a single individual establishes two separate trusts (for example, separate trusts for each of two children), a sale between those trusts is a related party transaction for IRC 267 purposes.

Exempt Organization and Controlling Person: IRC 267(b)(8)

Per IRC 267(b)(8), an exempt organization (under IRC 501) and a person who controls that organization are related persons. The statute uses the standard of a "person who controls" the organization; the IRS has not issued a bright-line quantitative definition of "control" in all contexts under this provision. Practitioners representing donors, officers, or directors of exempt organizations who engage in property transactions with the organization should analyze whether the person controls the organization under the applicable standard and hedge any position to current IRS guidance on the IRC 267(b)(8) control test.

S-Corporation and Controlling Shareholder: IRC 267(b)(10)

Per IRC 267(b)(10), an S-corporation and any person who owns (directly or indirectly) more than 50% of the S-corporation's outstanding stock are related persons. The threshold, as with IRC 267(b)(2), requires MORE than 50% ownership. A shareholder owning exactly 50% is not within IRC 267(b)(10). Constructive ownership under IRC 267(c) applies to determine indirect ownership for this test.

Two Partnerships with Common Ownership: IRC 267(b)(12)

Per IRC 267(b)(12), two partnerships are related persons when the same persons own (directly or indirectly) more than 50% of the capital interests or profits interests in each partnership. Note that the partnership-specific disallowance rules under IRC 267(e) and IRC 707(b) interact with the IRC 267(b)(12) category; practitioners should analyze both IRC 267 and IRC 707(b) for transactions involving partnerships under common ownership, as described in Section 5.

Executor and Estate Beneficiary: IRC 267(b)(13)

Per IRC 267(b)(13), the executor of an estate and a beneficiary of that estate are related persons -- EXCEPT for a sale or exchange made to satisfy a pecuniary bequest. The pecuniary bequest exception recognizes that where the will directs the executor to pay a specific dollar amount to a beneficiary, a distribution of property in satisfaction of that obligation is a specific and legally required transaction, not a voluntary related-party arrangement.

Section 3: Constructive Ownership Under IRC 267(c)

The IRC 267(b) related person categories are substantially expanded by the constructive ownership (attribution) rules of IRC 267(c). These rules treat stock as owned by persons other than the direct registered owner, based on family relationships, entity ownership interests, and options. A taxpayer who does not appear to satisfy an IRC 267(b) threshold on a direct ownership basis may cross the threshold once the IRC 267(c) attribution rules are applied.

Entity-to-Owner Attribution: IRC 267(c)(1)

Per IRC 267(c)(1), stock owned by a corporation, partnership, estate, or trust is considered owned proportionately by or for its shareholders, partners, or beneficiaries. Attribution flows from the entity outward to the owners. If Corporation X owns 40% of Corporation Z, and Individual A owns 60% of Corporation X, then Individual A is treated as owning 40% of Corporation Z directly (the 60% share of Corporation X's 40% interest, or 24%) through IRC 267(c)(1).

Owner-to-Entity Attribution: IRC 267(c)(2)

Per IRC 267(c)(2), stock owned by a partner is considered owned proportionately by the partnership. Attribution flows from the individual partner outward to the partnership. If Individual B owns 30% of Corporation Y and Individual B is a partner in Partnership P, then Partnership P is treated as owning 30% of Corporation Y through Individual B's ownership, proportionate to Individual B's interest in Partnership P.

Majority Shareholder Attribution to Related Corporation: IRC 267(c)(3)

Per IRC 267(c)(3), stock owned by a shareholder who owns 50% or more (in value) of a corporation is also considered owned by that corporation. Attribution flows from a major shareholder to the corporation the shareholder controls. This rule chains with other attribution rules to capture ownership relationships through intermediate entities.

Family Attribution: IRC 267(c)(4)

Per IRC 267(c)(4), an individual is treated as owning stock owned by (or for) the individual's spouse, brothers, sisters, ancestors, and lineal descendants. This is the family attribution rule, and it matches precisely the family members defined as related persons in IRC 267(b)(1). Stock owned by a taxpayer's brother is attributed to the taxpayer, and vice versa. A taxpayer who owns 30% of a corporation directly but whose spouse owns another 30% is treated as owning 60% -- satisfying the more-than-50% threshold of IRC 267(b)(2).

Option Attribution: IRC 267(c)(5)

Per IRC 267(c)(5), if a person has an option to acquire stock, the stock subject to the option is treated as owned by that person. A taxpayer who holds an option (a call option, a right of first refusal, or any other option to acquire stock) is attributed ownership of the underlying shares for purposes of the IRC 267(b) related person tests. This rule prevents avoidance of IRC 267 through the use of purchase options in lieu of direct ownership.

Worked Attribution Example

The following example illustrates how the IRC 267(c) attribution rules can create a related person relationship that is not apparent from direct ownership alone.

This example demonstrates the reach of IRC 267 through attribution: two corporations owned by the same individual are related persons even if neither owns a direct interest in the other. The IRC 267(c) attribution rules make Individual A's common control of both entities the connecting link for the IRC 267(b)(3) related person determination.

Section 4: IRC 267(d) -- The Purchaser's Offset Rule

IRC 267(d) is the most frequently misunderstood aspect of the related party loss disallowance framework. Practitioners often assume that a loss disallowed under IRC 267(a)(1) is gone permanently -- that the seller forfeits it entirely. That assumption is incorrect in many situations. IRC 267(d) provides a mechanism by which the economic value of the disallowed loss can be partially recovered by the purchaser when the purchaser later sells the property to an unrelated party at a gain.

How the Offset Works

Per IRC 267(d), if the original seller's loss was disallowed under IRC 267(a)(1), and the purchaser (the related person who bought the property) later sells the same property at a GAIN, the purchaser may exclude from recognized income the portion of that gain that does not exceed the amount of the previously disallowed loss. The disallowed loss, in effect, offsets the purchaser's gain at the time of the purchaser's later sale.

The critical limitations are:

• Gain only: The offset applies only to the extent of the purchaser's gain on the subsequent sale. If the purchaser later sells at a loss (not a gain), IRC 267(d) provides no benefit. The disallowed loss cannot be used to increase the purchaser's recognized loss on the second sale.
• No basis adjustment: Unlike the wash sale rule under IRC 1091(d), where the disallowed loss is added to the basis of the replacement security, the IRC 267(d) offset does NOT adjust the purchaser's basis in the property. The basis remains the purchase price paid to the related seller. The offset reduces the gain recognized at the time of the purchaser's sale; it does not operate at the basis level.
• Same property requirement: The IRC 267(d) offset applies only when the purchaser sells the same property that was the subject of the original disallowed loss sale. If the purchaser disposes of the property in a tax-free exchange or restructures it, practitioners should analyze whether the IRC 267(d) offset is still available on the basis of the specific facts and current IRS guidance.

Contrast with the IRC 1091 Wash Sale Mechanism

The contrast between IRC 267(d) and the IRC 1091 wash sale basis adjustment is an important distinction for practitioners who work with both rules:

• IRC 1091(d) (wash sale): The disallowed loss is added to the cost basis of the replacement security. The loss is embedded in the basis and will be recognized automatically when the replacement security is sold, regardless of whether the sale produces a gain or a further loss. The loss recovery is basis-driven.
• IRC 267(d) (related party): The disallowed loss is NOT in the purchaser's basis. It offsets the purchaser's gain at the time of the purchaser's later sale, and only to the extent of gain. If there is no gain, there is no offset. The loss recovery is gain-driven and contingent on a future gain event.

The economic outcome of the two rules may be similar when the purchaser sells at a gain, but the mechanism, the basis tracking requirements, and the outcome when there is no future gain differ materially.

Worked Numerical Example: IRC 267(d) Offset

The following example illustrates the IRC 267(d) offset in a year-by-year transaction:

The table demonstrates the contingent nature of the IRC 267(d) benefit: the disallowed loss is only partially or fully recovered if the property later produces a gain in the purchaser's hands. In the second alternative scenario, the Subsidiary sells at a loss, and the Parent's original $200,000 disallowed loss provides zero benefit.

Section 5: Partnership and S-Corp Applications

Partnership Special Rules: IRC 267(e)

IRC 267(e) provides special rules for partnerships. Under IRC 267(e), losses on sales or exchanges of property between a partnership and a person who owns (directly or indirectly) more than 50% of the capital interest or profits interest in that partnership are disallowed. The reference in IRC 267(e) is to the capital or profits interest in the partnership, not to stock ownership -- the corporate ownership tests of IRC 267(b)(2) and (b)(3) do not translate directly to the partnership context; IRC 267(e) provides the specific partnership threshold.

Interaction with IRC 707(b)

IRC 707(b) is a separate but closely related provision that disallows losses on sales or exchanges of property between a partner with a more-than-50% profits or capital interest and the partnership, and between two partnerships with more than 50% common ownership. IRC 707(b) and IRC 267(e)/(b) can overlap significantly in the partnership context.

Practitioners advising on transactions between partnerships and their major partners should apply both analyses. The ownership threshold is the same (more than 50%), but the two statutes differ in their scope and the manner in which they interact with other Code provisions. Where both IRC 267 and IRC 707(b) would apply, both should be noted and analyzed rather than treating one as a substitute for the other.

The gain character rule of IRC 707(b)(2) should also be considered: under IRC 707(b)(2), if property is sold between a partner and a partnership (or between two partnerships under common ownership) and the gain would not be a capital gain to the seller in an arm's-length transaction (for example, because the property is an inventory item or unrealized receivable in the seller's hands), the gain is treated as ordinary income regardless of its character in the buyer's hands. This character override applies in addition to (not instead of) the IRC 267 loss disallowance analysis.

S-Corporation and Shareholder: IRC 267(b)(10)

Per IRC 267(b)(10), an S-corporation and any person who owns (directly or indirectly) more than 50% of the outstanding stock of the S-corporation are related persons. The threshold is the same as IRC 267(b)(2) for C corporations: more than 50% ownership. A sole shareholder of an S-corp satisfies the test. Constructive ownership under IRC 267(c) applies to determine indirect ownership for S-corp shareholders as it does for C-corp shareholders.

A common scenario: an S-corporation sells real estate that has declined in value to its majority shareholder at a loss. The S-corporation's loss is disallowed under IRC 267(a)(1). The loss does not flow through to the shareholder's Schedule K-1 as a deductible loss. The shareholder holds the property with a basis equal to the price paid to the S-corporation. If the shareholder later sells the property at a gain, IRC 267(d) may apply to offset that gain by the amount of the S-corporation's previously disallowed loss.

Contribution of Property vs. Sale: The IRC 721 Distinction

A contribution of property to a partnership in exchange for a partnership interest is generally treated as a tax-free contribution under IRC 721, not as a "sale or exchange." Because IRC 267(a)(1) applies to losses from sales or exchanges of property, the IRC 267 related party loss disallowance does not apply to a qualifying contribution under IRC 721. A taxpayer who contributes depreciated property to a related partnership in a transaction that qualifies for nonrecognition under IRC 721 does not trigger IRC 267.

However, the distinction between a contribution and a disguised sale is fact-specific, and the IRS has authority to recharacterize a contribution as a sale under IRC 707(a) if the economic substance of the transaction is a sale (for example, if the contributing partner receives a distribution of cash within two years that is economically related to the contribution). Practitioners should hedge any contribution-vs.-sale determination to the specific facts and current IRS guidance under IRC 707(a) and the Treasury regulations thereunder, particularly where the contributing partner receives consideration from the partnership within a short period.

Controlled Group Rules: IRC 267(f)

IRC 267(f) extends the IRC 267(b) related person rules to members of a controlled group (as defined in IRC 1563) and provides that if a loss is deferred (rather than permanently disallowed) within a consolidated group, special rules apply. For members of an affiliated group filing a consolidated federal income tax return, the intercompany transaction regulations under Treas. Reg. section 1.1502-13 govern the timing and recognition of intercompany losses between group members, and these regulations work alongside (and in some cases modify the application of) the basic IRC 267(a)(1) disallowance.

The consolidated return intercompany transaction rules are an advanced area that goes beyond the scope of this guide's focus on the basic IRC 267 framework. Practitioners advising corporate affiliated groups that file consolidated returns should consult Treas. Reg. section 1.1502-13 and the Treasury regulations under IRC 267(f) for the specific rules applicable to intercompany property transactions within a consolidated group.

Section 6: Common Practitioner Traps and Planning Considerations

Year-End Loss Harvesting Between Family Members

A client who intends to recognize a capital loss by selling property to a family member before year-end runs directly into IRC 267(a)(1). Parents selling depreciated real estate or investment property to children at a loss to generate a deductible capital loss will find the loss disallowed. The family attribution category (IRC 267(b)(1) with IRC 267(c)(4)) covers parents and children, and there is no exception for transactions that are priced at genuine fair market value -- the statute disallows the loss regardless of whether the sale price equals fair market value.

The planning alternative is to sell the property to a genuinely unrelated third party. If the goal is to keep the property within the family, the client should understand that a sale to a related person does not achieve current loss recognition, and a subsequent gifting strategy should be considered separately, with gift tax implications analyzed.

Parent-Subsidiary Sales Outside a Consolidated Group

For parent and subsidiary corporations that are NOT part of a consolidated return group (for example, an 80% parent that has not elected to file a consolidated return, or a 70% parent), the basic IRC 267(a)(1) disallowance applies to losses on property sales between them. Practitioners sometimes assume that consolidated return rules apply to all related corporate transactions, but consolidation is elective and requires an 80%-or-greater ownership threshold under IRC 1504. For related corporations outside the consolidated group, IRC 267(a)(1) governs, and the basic disallowance applies without the deferral mechanics that consolidated return regulations provide for intercompany transactions.

Bad Debt Losses Between Related Persons

IRC 267 applies not only to losses on sales of tangible property but also to bad debt losses between related persons. A loan from a parent corporation to a subsidiary that becomes wholly or partially uncollectible produces a bad debt loss that is a loss from a transaction between related persons. Per IRC 267(a)(1), that loss is disallowed to the same extent as any other related party loss. Practitioners representing lenders within a family or corporate group who have extended loans to related borrowers should analyze IRC 267 before deducting bad debt write-offs on those loans.

The IRC 267(a)(2) Timing Mismatch in Year-End Compensation Planning

IRC 267(a)(2) is a recurring trap in year-end tax planning for closely held businesses. An accrual-basis corporation that accrues a bonus or management fee to a shareholder-employee (a cash-basis related person) at year-end cannot deduct the accrued amount until the year it is actually paid. If the bonus accrued on December 31 is not paid until March 15 of the following year, the deduction is a next-year deduction, not a current-year deduction.

The practical fix is straightforward: if the deduction is needed in the current year, the payment must be made in the current year. Accruing the amount is not sufficient. Some practitioners instruct clients to date checks before December 31 -- but the payment must be genuinely received and negotiable by year-end, not merely backdated. The check must also clear within a reasonable time of year-end to qualify as a current-year payment. Practitioners should verify the specific payment date, not merely the check date, and document the delivery and clearance.

Installment Sales Between Related Parties: IRC 453(e)

IRC 453(e) imposes a separate set of rules for installment sales between related parties that operate independently from IRC 267. Where a taxpayer sells property to a related person on the installment method and recognizes gain (not a loss, because IRC 267 would disallow a loss), IRC 453(e) provides that if the buyer (the related person) subsequently disposes of the same property before the installment obligation is fully satisfied -- generally, within 2 years of the original sale -- the original seller must recognize gain as if the buyer's sale proceeds were received in the year of the buyer's disposition.

The two rules address distinct situations: IRC 267 applies to related party sales at a LOSS (disallowing the loss). IRC 453(e) applies to related party installment sales at a GAIN (accelerating gain recognition if the buyer resells quickly). A related party transaction at a gain on the installment method requires IRC 453(e) analysis. A related party transaction at a loss requires IRC 267(a)(1) analysis. They are not alternative analyses -- they address different outcomes of the same transactional framework.

Like-Kind Exchanges and IRC 1031(f)

Where a related party sale would trigger the IRC 267 loss disallowance, a client may consider whether a qualifying like-kind exchange under IRC 1031 could provide nonrecognition instead. In principle, a like-kind exchange between related parties is a "nonrecognition" event, and there is no loss recognized to disallow under IRC 267(a)(1) in a true exchange.

However, IRC 1031(f) imposes specific anti-abuse rules for related party like-kind exchanges: if either the taxpayer or the related party disposes of the exchanged property within 2 years of the exchange date, the nonrecognition treatment is revoked and the previously deferred gain or loss is recognized in the year of the subsequent disposition. Practitioners considering related party like-kind exchanges as an alternative to a taxable sale must analyze both IRC 267 (to confirm the exchange avoids IRC 267 in the year of the exchange) and IRC 1031(f) (to confirm the 2-year holding rule can be satisfied by both parties). The interaction of the two provisions requires coordinated analysis, not a single-provision review.

Section 7: Form 4797 and Schedule D Reporting

Capital Asset Sales: Form 8949 and Schedule D

When a capital asset (property held for investment, not used in a trade or business) is sold between related persons at a loss, the transaction is reported on Form 8949 and flows to Schedule D. There is no Form 8949 adjustment code specifically designated for IRC 267 related party loss disallowances in the way that Code W flags a wash sale under IRC 1091. Practitioners should include a descriptive notation in the description field of Form 8949 (column (a)) to identify the transaction as a related party loss disallowed under IRC 267. The disallowance is reflected as an adjustment in column (g): enter the disallowed loss amount as a positive number (which reduces the column (h) result to zero for a fully disallowed loss).

For a partial disallowance (for example, where only part of the loss is attributable to the related party component and part is not), the allowed portion flows through to column (h) as a normal capital loss. The disallowed portion is the adjustment in column (g). The Form 8949 instructions should be consulted to confirm the current reporting convention for the applicable adjustment code, and any position that deviates from a standard code should include a supporting explanatory notation.

Business Property Sales: Form 4797

When depreciable property or real property used in a trade or business is sold between related persons at a loss, the transaction is reported on Form 4797 (Sales of Business Property). The disallowance under IRC 267(a)(1) is reflected at the Form 4797 level: the loss that would otherwise be recognized on Form 4797 is not taken. Practitioners should document the IRC 267 analysis in the return workpapers and include a notation on or with the Form 4797 identifying the transaction as a related party sale with the loss disallowed under IRC 267(a)(1).

Note that Form 4797 Part III (for IRC 1245 and IRC 1250 property with mixed gain-and-depreciation-recapture components) requires separate analysis to determine the portions of any gain or loss attributable to recapture. In a related party sale at a loss, there is no gain to recapture under IRC 1245 or IRC 1250 -- recapture applies only when the sale produces gain above the property's depreciated basis. The IRC 267 disallowance applies to the overall loss, not to the recapture analysis, because a loss means the sale price is below the depreciated basis and no recapture is triggered. Practitioners working with depreciable business property sales between related persons should confirm that the Form 4797 presentation correctly reflects the no-recapture outcome and the loss disallowance.

Reporting the IRC 267(a)(2) Timing Mismatch

For the IRC 267(a)(2) timing mismatch on accrued expenses owed to a cash-basis related person, the reporting treatment is a deduction deferral: the accrual-basis taxpayer does not take the deduction in the year of accrual; the deduction is taken in the year of actual payment. On the return for the year of accrual, the accrued expense is excluded from the deductible amounts. On the return for the year of payment, the amount is deducted as if it were a current-year expense. Practitioners should document the accrual date, the payment date, and the related party relationship in the workpapers for both the year of accrual and the year of payment.

Reporting the IRC 267(d) Offset in a Later Year

When the IRC 267(d) offset applies in the year the purchaser sells the property to a third party, the purchaser reports the sale normally (proceeds, basis, gain or loss), and then reduces the recognized gain by the applicable IRC 267(d) offset amount. Because there is no specific line or code on Form 8949 or Form 4797 for an IRC 267(d) offset, practitioners should include an explanatory notation identifying: (1) the amount of the offset; (2) the citation to IRC 267(d); (3) the year and amount of the original disallowed loss; and (4) that the property sold is the same property as the original related party transaction.

The offset reduces gain recognized -- it does not reduce the amount reported as proceeds or increase the basis reported. The gain computation should show full proceeds, correct basis, the gross gain, and then the IRC 267(d) offset as a reduction, resulting in the net recognized gain. Supporting documentation for the offset should be retained in the client file.

Frequently Asked Questions

Common questions from enrolled agents, CPAs, and tax attorneys on the IRC 267 related party loss disallowance.

Tax Software for Complex Related Party and Loss Limitation Returns

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