[IMGCAP(1)]The IRS offers tremendous flexibility in how a foreign entity may be classified for U.S. income tax purposes.

For example, by following certain procedures, a foreign entity can elect be to classified as a partnership, corporation or disregarded entity for U.S. income tax purposes.

The IRS procedure is commonly known as a “check the box” election. This election is made by filing Form 8832 (Entity Classification Election) with the IRS. As is the case with most elections, the check-the-box election must be made in a timely manner.

The election is typically favorable in situations in which the foreign entity is a corporation under local law, but it is desirable for U.S. purposes to have the foreign entity treated as a foreign partnership or disregarded for U.S. income tax purposes. If the check-the-box election were accidentally missed, the taxpayer could face adverse U.S. income tax consequences. For example, a missed election could subject a taxpayer to double taxation or limit the use of losses and foreign tax credits.

To provide some relief from missed election, the IRS has issued new guidance that makes it easier to correct missed elections. 

Under the old rules (Rev. Proc. 2002-59), if a taxpayer failed to make a timely check-the-box election, a statement could be attached to Form 8832 explaining why the election was not timely filed. While not automatic, this relief was usually granted by the IRS. The downside of Rev. Proc. 2002-59 is that the relief only applied to newly formed entities requesting relief to file an initial classification election.

A new revenue procedure, Rev. Proc 2009-41, which replaces Rev. Proc. 2002-59, has extended relief with respect to late entity classification elections. The relief applies to both initial classification elections and changes in classification elections, and extends the time for filing late entity classification elections. Relief must be requested before three years and 75 days from the requested effective date and reasonable cause for the failure to timely make the classification election must be shown.

An entity must meet one of the following requirements in order to qualify for relief:

1. The entity failed to obtain its requested classification or reclassification solely because Form 8832, Entity Classification Election, was not timely filed, and the entity has either not filed federal tax or information returns for the first year in which the election was intended because the due date for such filing has not yet passed; or,

2. The entity has timely filed all required federal tax and information returns consistent with its required classification for all of the years the entity intended the requested election to be effective.

The relief is effective Sept. 28, 2009. An entity that does not satisfy the requirements above may request relief by applying for a private letter ruling with the IRS.

Eric Oftedal is a senior manager at MarcumRachlin.

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