338(h)(10) vs. 336(e) Election:
The Tax Tools That Break Deal Impasses

A Section 338(h)(10) election is a joint tax election under the Internal Revenue Code that allows the parties to a qualified stock purchase to treat the transaction as an asset sale for federal income tax purposes, even though the legal transaction is a stock purchase. The buyer gets the tax benefits of an asset purchase - stepped-up basis in the target's underlying assets, enabling greater depreciation and amortization deductions. The transfer mechanics of a stock purchase are preserved - no need to individually assign contracts, permits, or licenses. Both the buyer and seller must jointly elect this treatment by filing IRS Form 8023 on or before the due date of the buyer's tax return for the year of the transaction.

The 338(h)(10) election is available for: (1) acquisitions of S-corporation stock - the most common use case; (2) acquisitions of stock in a target that is a member of a seller's consolidated group (i.e., a corporate subsidiary being sold by a parent in a consolidated return); and (3) certain foreign acquisitions. It is NOT available for standalone C-corporation stock purchases - in that scenario, the Section 338(g) election (a unilateral buyer election) is available but applies different tax mechanics. For most middle-market acquisitions involving S-corps, the 338(h)(10) election is the most important tax planning tool available.

The seller bears additional tax cost. In a straight stock sale of an S-corp, the selling shareholders recognize capital gain on the sale of their stock - typically the most tax-efficient outcome for the seller. With a 338(h)(10) election, the sale is treated as if the corporation sold all its assets, which means: (1) gain on each asset class is recognized (some asset classes have less favorable tax treatment than capital gain on stock), (2) depreciation recapture may be triggered (ordinary income), and (3) the gain flows through to the S-corp shareholders who report it on their individual returns. Sellers often demand a 'tax gross-up' payment from the buyer to compensate for the incremental tax cost of the election. The buyer benefits from the stepped-up basis; the additional cost is a negotiated payment that effectively splits the tax benefit.

Sellers agree to 338(h)(10) elections when the buyer's tax benefit is large enough to fund a meaningful gross-up payment that leaves the seller economically whole (or better) versus a pure stock sale with no election. This is the most common use of the election: the buyer's stepped-up basis creates future depreciation and amortization deductions worth, say, $1M in NPV. The buyer and seller split the benefit - buyer pays seller an additional $500K gross-up; buyer captures $500K of tax benefit net. Both parties leave money on the table relative to their optimal unilateral outcome, but both are better off than if the deal had not happened at all. The election is fundamentally a value-creation tool that good M&A counsel uses to close deals that would otherwise fail on structure.

The election requires mutual agreement and joint filing - it cannot be made unilaterally by either party. A buyer who wants the election must negotiate it with the seller, and the parties must agree on any gross-up payment to compensate the seller for incremental tax cost. If the seller refuses, the only unilateral option for the buyer is a Section 338(g) election, which treats the acquisition as if the target sold its assets but does not allow the tax benefits to flow through as cleanly to shareholders. For S-corp acquisitions, Section 338(g) is generally not available or not beneficial - the 338(h)(10) is the specific tool for this structure, and both parties must agree.

No. A Section 338(h)(10) election requires the buyer to be a 'purchasing corporation' making a qualified stock purchase - an individual, a partnership, or an LLC that has not elected to be taxed as a corporation cannot join the election, even when buying 100% of an S-corp's stock. This is a common surprise for buyers using a newly formed acquisition entity to hold the target, since many of those entities are not taxed as corporations. Section 336(e) exists precisely to solve this gap: it lets the S-corp and its shareholders elect deemed asset sale treatment on a qualifying stock disposition without requiring the purchaser to be a corporation or to join the election at all. Confirm the tax classification of your acquisition entity with your tax advisor early, since it determines which election, if either, is available.

Generally, yes. Both a 338(h)(10) election and a 336(e) election convert what would otherwise be a single layer of capital gain on a stock sale into a deemed sale of the target's underlying assets. That deemed sale can trigger less favorable tax treatment on certain asset classes, most notably ordinary income from depreciation recapture, in addition to the capital gain from the stock disposition. The incremental cost varies significantly based on the target's asset mix and depreciation history, which is why sellers typically negotiate a gross-up payment from the buyer to offset it rather than agreeing to either election as a courtesy. Consult your tax advisor to model the specific impact before agreeing to any deemed asset sale election.

For a 338(h)(10) election, IRS Form 8023 generally must be filed by the 15th day of the ninth month after the month in which the acquisition date falls, a hard deadline that is not tied to the purchasing corporation's extended return due date. Form 8883, which reports the purchase price allocation, is filed with the income tax returns of both parties for the year that includes the acquisition. A 336(e) election works differently: it is made through a written, binding election statement, generally attached to the timely filed return (including extensions) of the S-corp and its shareholders, or the selling group's common parent, for the year of the disposition, rather than a standalone form filed in advance. These deadlines are unforgiving and generally cannot be cured after the fact, so confirm exact filing mechanics and dates with your tax advisor as soon as the election is on the table, ideally at LOI.