Related-Party Transactions: The Section 267 Traps
Why sales and payments between family members or commonly owned businesses follow special rules — disallowed losses, deferred deductions, and gains turned ordinary.
Reviewed by the Fairlight Accounting cross-border tax team — U.S. & Canadian Tax Desks
Transactions between related parties — family members, a person and a corporation they control, commonly owned businesses — are subject to rules that deny or defer tax benefits the parties could otherwise manufacture between themselves. Losses on sales are disallowed, accrued expenses are deductible only when the related recipient reports them, and gains on depreciable property become ordinary income.
On this page
Who is related?
| Relationship | Examples |
|---|---|
| Family | Spouse, brothers and sisters (whole or half blood), ancestors, lineal descendants (not in-laws, aunts, uncles, nieces, nephews, cousins) |
| Individual and a corporation | More than 50 percent in value of the stock owned directly or indirectly (including by attribution from family, partners, and entities) |
| Two corporations | Members of the same controlled group (more-than-50-percent test); losses are deferred rather than disallowed |
| Partnership and partner | More than 50 percent capital or profits interest (Section 707(b)) |
| Trust and grantor, fiduciary, or beneficiary | As defined |
| S corporation or partnership and any owner, for the matching rule | Any ownership percentage (Section 267(e)) |
Stock owned by family members and by entities you own is attributed to you for these tests.
What are the main rules?
- Loss disallowance. A loss on the sale of property to a related party is not deductible. The buyer's later gain is reduced by the disallowed loss, but the loss is never deducted outright. Selling a losing stock to your spouse or your corporation to harvest the loss does not work.
- Matching rule. An accrual-method business cannot deduct an expense owed to a related cash-method party until the related party includes it in income. An S corporation that accrues a bonus or rent to a cash-method shareholder of any size deducts it when the shareholder includes it in income, generally when paid; a C corporation's accrued bonus to a more-than-50-percent owner waits for payment.
- Ordinary income on depreciable property. Gain on the sale of property that will be depreciable in the buyer's hands is ordinary income under Section 1239, not capital gain, when the sale is between a person and an entity they control (more than 50 percent, counting family attribution) or certain trusts and estates — because the buyer will depreciate the stepped-up basis.
- Installment sales. Under Section 453(e), a related buyer who resells within two years (with no time limit for marketable securities) accelerates the seller's deferred gain; under Section 453(g), installment reporting is generally unavailable for depreciable property sold to a related party unless tax avoidance was not a principal purpose.
- Partnership transactions. Losses on sales between a partnership and a more-than-50-percent partner are disallowed, and certain gains are ordinary.
What is allowed?
Sales at fair value, loans with interest at the applicable federal rate and real repayment, leases at market rent, and compensation for actual services. The rules do not prohibit related-party dealings; they remove the tax advantages that related parties could otherwise create. Documentation — appraisals, comparable rents, written notes — is what separates a legitimate transaction from a challenged one.
Frequently asked questions
Does the loss disallowance apply to sales between in-laws?
No. In-laws are not related parties under Section 267, though other doctrines can apply to sham transactions.
Can I sell my car to my LLC and deduct a loss?
Not if you own more than 50 percent of the LLC — and a loss on a personal-use car is not deductible in any case. If the car had been used in business and depreciated, any gain would be ordinary.
Does the matching rule apply to a sole proprietor?
A sole proprietor is the same taxpayer as the business, so there is no related-party expense; the rule applies between separate taxpayers.
Are gifts between family members affected?
Gifts are not sales, so Section 267 does not apply; the recipient generally takes the donor's basis, but for figuring a loss the basis is limited to the property's fair market value at the time of the gift.
Official sources
The statute provides: “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).” — Legal Information Institute, Cornell Law School, 26 U.S. Code § 267 - Losses, expenses, and interest with respect to transactions between related taxpayers, https://www.law.cornell.edu/uscode/text/26/267
The IRS explains: “A loss on the sale or exchange of property between related persons is not deductible. This applies to both direct and indirect transactions but not to distributions of property from a corporation in a complete liquidation.” — Internal Revenue Service, Publication 544 (2025), Sales and Other Dispositions of Assets, https://www.irs.gov/publications/p544
Next step
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