Deemed Asset Sale Elections: Section 336(e), ADADP, and AGUB

A Section 336(e) election lets the seller and target in a qualifying stock sale treat the transaction as if the target had sold its assets, giving the buyer a stepped-up tax basis in those assets and the depreciation and amortization deductions that come with it. What sets it apart from other stepped-up-basis elections is that the buyer does not have to sign off and does not have to be a corporation. The seller (or, for an S corporation target, all of its shareholders) and the target make the election together.

When the Election Is Available

Three conditions have to be met before Section 336(e) is on the table.¹²

The seller must be a domestic corporation. Where a consolidated group is involved, all members disposing of target stock are treated as one seller, so the group as a whole can satisfy the threshold. The target whose stock is being sold must also be a domestic corporation. Foreign corporations on either side disqualify the deal.

The seller must own target stock meeting the affiliation test in Section 1504(a)(2): at least 80 percent of total voting power and at least 80 percent of total value.³

For an S corporation target, the individual shareholders take the seller’s place as the parties making the election. The S election stays in effect through the close of the disposition date, covering the deemed asset sale and deemed liquidation.⁴

What Counts as a Qualified Stock Disposition

The transaction itself has to qualify. That means selling, exchanging, or distributing target stock meeting the 80 percent voting and 80 percent value thresholds inside a single 12-month window, called the disposition period. The clock starts on the date of the first qualifying disposition. If the threshold is not hit within 12 months, the election is gone.

Not every transfer counts toward the 80 percent. Stock moved to a related party — a broad category that reaches family members and commonly controlled entities — is out. Transfers in tax-free exchanges, including Section 351 contributions to a controlled corporation, are also out. Only fully taxable dispositions by the seller count toward the threshold.⁴

Distributions can qualify, not just sales. A parent that distributes all of a subsidiary’s stock to shareholders — including certain gain-triggering distributions under Section 355(d) or 355(e) — can make the election. When the election arises from one of those spin-off provisions, the old target is not deemed to liquidate after the deemed asset sale, which is a departure from the ordinary Section 336(e) pattern.⁵

Section 336(e) Versus Section 338(h)(10)

Both elections produce the same core result: a deemed asset sale followed by a deemed liquidation. The choice between them usually turns on three things.

Who the buyer is. Section 338(h)(10) works only if the buyer is a corporation. Section 336(e) places no restriction on the buyer. An individual, a partnership, or an LLC taxed as a partnership can acquire the stock and the seller and target can still make the 336(e) election. This is the most common reason practitioners reach for it.⁶

Whether the buyer has to agree. A 338(h)(10) election requires both buyer and seller. A 336(e) election is unilateral, made by the seller (or S corporation shareholders) and the target. The buyer plays no formal role, so purchase agreements should say clearly whether the target will file the election or not.

Whether distributions are in play. Section 338 covers stock purchases only. Section 336(e) also reaches stock distributions, which is what makes it work for certain 355(d) and 355(e) spin-offs.

When a transaction qualifies under both provisions, Section 338(h)(10) controls. The parties make that election and cannot use 336(e) instead.⁶

How the Deemed Sale Price Works

ADADP on the Seller Side

The old target is treated as selling its assets for the Aggregate Deemed Asset Disposition Price. ADADP equals the grossed-up amount realized on the stock sold, exchanged, or distributed, plus the old target’s liabilities.⁷ Liabilities are measured at the beginning of the day after the disposition date and include only those that would be treated as part of the amount realized in an actual asset sale to an unrelated buyer, including any tax liability the deemed sale itself creates.

ADADP can be redetermined under general tax principles if circumstances shift after the disposition date, for instance when a contingent liability becomes fixed. Getting the initial figure right still matters, because it drives the gain or loss the old target reports on every asset it is deemed to sell.

AGUB on the Buyer Side

The new target is treated as buying all of its assets for the Adjusted Grossed-Up Basis. AGUB starts with the stock purchase price, grosses up for any nonrecently purchased stock, and adds target liabilities.⁸ AGUB is the total basis pool that gets allocated across the assets on the new target’s books.

The Residual Method

Both ADADP and AGUB are allocated across seven asset classes in a fixed order, using the residual method under Section 338.⁹ Each class is filled to fair market value before value spills into the next.

Class I: cash and general deposit accounts (checking and savings, not CDs).
Class II: actively traded personal property, including U.S. government securities, publicly traded stock, CDs, and foreign currency.
Class III: debt instruments and mark-to-market assets, including accounts receivable.
Class IV: inventory and property held primarily for sale to customers.
Class V: everything not caught by another class, including equipment, furniture, real estate, and stock of target affiliates.
Class VI: Section 197 intangibles other than goodwill and going concern value, such as patents, customer lists, covenants not to compete, and trademarks.
Class VII: goodwill and going concern value.

Whatever is left after Classes I through VI lands in Class VII. In most deals, that residual goodwill number is the largest item in the allocation. Both the old and new target report the allocation on Form 8883, adapted for the Section 336(e) election.⁴ When the election comes out of a 355(d) or 355(e) transaction, the old target files two Forms 8883, one as seller and one as deemed purchaser.

What the Seller Reports

The old target is treated as having sold every asset in a single transaction at its allocated ADADP value. Appreciation triggers gain, decline triggers loss. Character follows the asset: capital assets held long-term generate capital gain, while inventory and similar property generate ordinary income.

Depreciation recapture is where the tax bill often surprises sellers. Section 1245 property — equipment, machinery, vehicles, and other tangible depreciable assets — produces ordinary income up to the amount of prior depreciation, regardless of holding period.¹⁰ Ordinary rates apply, not capital gains rates. For a target with heavily depreciated equipment, that can be a substantial number.

After the deemed asset sale, the old target is generally treated as liquidating and distributing proceeds to shareholders. Stock-level gain or loss disappears; the asset-level tax stands in for it.²

Loss Disallowance on Distributed Stock

If part of the qualified stock disposition is a distribution rather than a sale, and the deemed asset sale produces a net loss, the portion of that loss allocable to the distributed stock is disallowed. The disallowed amount is the total net loss multiplied by a fraction: the value of target stock distributed during the 12-month period over the value of all target stock disposed of during that period.⁴ The rule blocks losses generated through distributions that lack an arm’s-length exchange.

What the Buyer Gets

The payoff on the buyer’s side is a fresh basis in every asset equal to that asset’s AGUB allocation. For tangible property, higher basis means larger depreciation deductions over the remaining recovery period. For Section 197 intangibles — goodwill, going concern value, customer lists, covenants not to compete, trademarks, patents, and similar property — the buyer amortizes the stepped-up basis on a straight line over 15 years, starting in the month of the deemed acquisition.¹¹ No other amortization method is permitted for Section 197 intangibles.

These deductions cut the new target’s taxable income for years after closing. Whether the election is worth making comes down to modeling: does the present value of the buyer’s future deductions exceed the seller’s extra tax from recognizing gain at the asset level, including recapture? In deals with a large goodwill component, the 15-year amortization alone often makes the answer yes.

Filing the Election

The Written Agreement

Before anything reaches the IRS, the seller (or all S corporation shareholders) and the target must sign a written, binding agreement to make the election. The signing deadline depends on who the parties are.¹²

Consolidated group members: by the due date, including extensions, of the group’s consolidated return for the year that includes the disposition date.
Non-consolidated seller and target: by the earlier of the seller’s or target’s return due date, including extensions, for the year that includes the disposition date.
S corporation target: by the due date, including extensions, of the S corporation’s return for the year that includes the disposition date, signed by all shareholders — including those who did not sell any stock — and the target.

The requirement that every S corporation shareholder sign, even those who kept their shares, is easy to overlook. A single missing signature can invalidate the election.

The Election Statement

The election statement is attached to the relevant returns for the year of the disposition — Form 1120 or the consolidated return on the seller’s side, the target’s final return on the target’s side. The statement must include legal names and addresses of the seller and target, taxpayer identification numbers, and the exact disposition date.⁴ For S corporation targets, all participating shareholders’ names appear as well. Both the old and new target file Form 8883 to report the allocation. Keep the signed agreement, the election statement, and the Form 8883 in permanent records; the IRS will ask for them if basis is ever questioned.

The Election Is Irrevocable

Once filed, a Section 336(e) election cannot be undone.⁴ Model the seller’s gain, recapture, and the buyer’s future deduction stream before committing.

Protective and Late Elections

Sometimes it is not clear at filing time whether a transaction is a qualified stock disposition. That question comes up most often around 355(d) and 355(e) transactions where the existence of a disqualifying distribution is genuinely debatable. The regulations allow a protective Section 336(e) election. If the transaction ultimately does not qualify, the election has no effect. If it does qualify, the election becomes binding and irrevocable.¹² It is insurance against losing the benefit if the IRS later recharacterizes the deal.

Missing the deadline is not automatically fatal. Under Treasury Regulation Section 301.9100-3, the IRS may grant an extension of time to file the election statement if the taxpayer shows it acted reasonably and in good faith and that the extension does not prejudice the government’s interests.¹³ Relief requires a private letter ruling request, with supporting affidavits, filed before the IRS discovers the failure on its own. The aggregate tax liability of all parties must be no lower than it would have been on timely filing, adjusted for the time value of money. Penalties and interest are not waived because relief is granted. The process is available, but slow, expensive, and not guaranteed.

1
eCFR. 26 CFR 1.336-1 – General Principles, Nomenclature, and Definitions for a Section 336(e) Election
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Office of the Law Revision Counsel. 26 USC 336 – Gain or Loss Recognized on Property Distributed in Complete Liquidation
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Office of the Law Revision Counsel. 26 USC 1504 – Definitions
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eCFR. 26 CFR 1.336-2 – Availability, Mechanics, and Consequences of Section 336(e) Election
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eCFR. 26 CFR 1.336-2 – Availability, Mechanics, and Consequences of Section 336(e) Election
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The Tax Adviser. Sec. 336(e) Elections for S Corp. Targets – Get a Step-Up Without a Letter Ruling
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eCFR. 26 CFR 1.336-3 – Aggregate Deemed Asset Disposition Price
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eCFR. 26 CFR 1.336-4 – Adjusted Grossed-Up Basis
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eCFR. 26 CFR 1.1060-1 – Special Allocation Rules for Certain Asset Acquisitions
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Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property
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Office of the Law Revision Counsel. 26 USC 197 – Amortization of Goodwill and Certain Other Intangibles
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Federal Register. Regulations Enabling Elections for Certain Transactions Under Section 336(e)
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Internal Revenue Service. Private Letter Ruling 202511012