PORTFOLIO

Accounting Methods — Adoption and Changes (Portfolio 572)

Be a trusted advisor to your clients with Bloomberg BNA Tax Portfolios. This portfolio provides taxpayers with guidance when adopting or changing an accounting method.

Price: $400 Print

GET MORE WITH THE FULL PORTFOLIO LIBRARY

This Portfolio, BNA Tax and Accounting Portfolio 572-4th, Accounting Methods — Adoption and Changes, provides taxpayers with guidance when adopting or changing an accounting method.

FREE TRIAL

DESCRIPTION

This Portfolio, BNA Tax and Accounting Portfolio 572-4th, Accounting Methods — Adoption and Changes, provides taxpayers with guidance when adopting or changing an accounting method. In the first year of operation, or in the first year in which a new line of business begins, a taxpayer generally may adopt any accounting method that clearly reflects income without obtaining special IRS permission. Thereafter, the Commissioner's consent generally must be obtained before a taxpayer may change to another method of accounting. This Portfolio outlines the principles for determining whether an issue involves the accounting method rules. The Portfolio also examines the procedures taxpayers must follow when requesting the Commissioner's consent to change a method of accounting, the adjustments that must be made as a result of the change, and any effects the adjustments will have on net tax liability. In addition, the Portfolio discusses the implications of certain merger transactions on accounting method issues, as well as the impact accounting method changes can have for other purposes of the Code.


Buy Accounting Methods — Adoption and Changes (Portfolio 572) now


AUTHORS

JAMES E. CONNOR
James E. Connor, J.D., PricewaterhouseCoopers LLP; B.A., Cornell University; J.D., University of Pennsylvania Law School; LL.M. in Taxation, Georgetown University Law Center; adjunct professor, Georgetown University Law Center (LL.M. program); formerly of Office of Chief Counsel, Internal Revenue Service (1977–85); served as Technical Assistant to Director of Legislation & Regulations Division (1985); co-authored Tax Management Portfolios 575 T.M., 576 T.M. and 577 T.M.

JENNIFER D. KENNEDY
Jennifer D. Kennedy, CPA, PricewaterhouseCoopers LLP; B.S., Washington and Lee University; M.S.T., American University; member, American Institute of Certified Public Accountants; member, Virginia Society of Certified Public Accountants.

GEORGE A. MANOUSOS
George A. Manousos, CPA, PricewaterhouseCoopers LLP; B.S., Northeastern University; M.S.T., American University; adjunct professor, American University Kogod School of Business (Masters in Taxation program); formerly of Office of Tax Legislative Counsel, U.S. Department of the Treasury (2002-2006), served as Taxation Specialist specializing in accounting methods and inventories; member, American Institute of Certified Public Accountants; member Massachusetts and DC Society of Certified Public Accountants.

DENNIS L. TINGEY
Dennis L. Tingey, J.D., CPA, PricewaterhouseCoopers LLP; B.S. Arizona State University, M.S.T., Arizona State University, J.D. Arizona State University College of Law; formerly of Office of Tax Legislative Counsel, U.S. Department of the Treasury (2006-2008), served as Senior Tax Law Specialist specializing in accounting methods and inventories; member American Bar Association, Tax Section; member State Bar of Arizona; member, American Institute of Certified Public Accountants.

TABLE OF CONTENTS

Detailed Analysis

I. Introduction

A. General Introduction

B. Adoptions of Accounting Methods - General Discussion

C. Method Changes

1. General Discussion

2. Types of Accounting Method Changes

a. In General

b. Voluntary Changes

(1) General Discussion

(2) Automatic Changes

(3) Non-Automatic Method Changes

(4) Changes Not Subject to General Accounting Method Rules

c. Statutorily Mandated Changes

d. Changes Required Because of § 381 Transactions

e. Involuntary Method Changes

f. Unauthorized Changes

3. The Step-by-Step Approach Used in this Portfolio

a. Introduction

b. The Steps

II. Determining Whether the Issue Involves the Accounting Method Rules

A. Introduction

B. General Rules

1. Concept of “Method of Accounting”

2. Timing

3. Consistency

4. Books and Records

C. Non-Accounting Method Changes

1. In General

2. Change in Underlying Facts

3. Correction of an Error

III. Adopting an Accounting Method

A. General Rules

B. Change in Form of Business - New Accounting Methods

C. How to Adopt an Accounting Method

1. General Rules

2. Methods with Special Procedural Requirements

D. Binding Effect of Adoption

1. In General.

2. Proper Method

3. Improper Method

4. Examples

IV. Non-automatic Accounting Method Changes

A. Introduction

B. Can the Request for Accounting Method Change Be Filed?

1. Situations in Which the Right to File Form 3115 Is Restricted

2. “Window Periods” During Which a Method Change Can Be Requested While Under Examination

a. General Discussion

b. The 90-Day Window Period

c. The 120-Day Window Period

C. Will the IRS National Office Grant the Requested Change?

1. General Discussion

2. Methods to Which the IRS Will Not Grant Method Changes

D. Special Considerations for LIFO Inventory Changes

1. Introduction

2. Determining Whether a Change Is a LIFO Inventory Change

a. In General

b. Examples of Changes Not Treated as LIFO Method Changes

c. Examples of Non-Automatic LIFO Method Changes

3. Treatment of Voluntary Method Change

E. Terms and Conditions Imposed upon Grant of Change in Accounting Method

1. General Discussion

2. Additional Terms and Conditions

a. Conformity

b. Computation of Earnings and Profits

c. Alternative Minimum Tax

F. Procedural Requirements of Filing Form 3115

1. Manner of Requesting Permission to Change Accounting Methods

a. Form 3115

b. Multiple Forms 3115

c. User Fees

2. Time for Filing Form 3115

3. Estimated Tax Payments While the Form 3115 Is Pending

4. Method Changes Not Acted Upon by Tax Return's Due Date

G. Processing of the Form 3115 by the IRS National Office

H. Strategic Considerations

1. General Discussion

2. Changes from Proper Methods of Accounting

3. Changes from Improper Methods

4. Changes from “Gray Area” Methods

V. Automatic Accounting Method Changes

A. Introduction

1. History of Automatic Accounting Method Changes

2. Use of Automatic Method Change Procedure Is Mandatory

3. Advantages of Automatic Change Procedures

B. Qualifications for Automatic Accounting Method Changes

1. Types of Changes that Are Potentially Automatic Method Changes

2. Facts that Preclude Automatic Method Changes

a. In General

b. Generic Scope Restrictions

(1) Under Examination

(a) General Rules

(b) Additional Situations in Which Taxpayers Can File Automatic Method Changes While Under Examination

(i) Changes Lacking Audit Protection

(ii) Changes for an Issue Pending

(2) Before IRS Appeals Office or Before a Federal Court

(3) Partnerships and S Corporations

(4) Previous Changes

(5) Section 381(a) Transaction in Year of Change

c. Scope Restrictions for Specific Method Changes

C. Consequences of Making a Method Change Automatically

1. Terms and Conditions Required for Automatic Method Change

a. In General

b. Year of Change

c. Section 481(a) Adjustment and Spread Period

(1) In General

(2) Negative § 481(a) Adjustments

(3) Positive § 481(a) Adjustments

d. NOL Carryback Restriction for Taxpayers Subject to Criminal Investigation

e. Change Treated as Initiated by the Taxpayer

2. Audit Protection

D. Procedural Rules for Automatic Accounting Method Changes

1. Manner of Filing

2. Time Frame for Filing

3. Where to File the National Office Copy of Form 3115

4. No User Fee

5. Single Application for Certain Taxpayers

6. Statements Required to Be Attached to Application

a. Statement if Under Exam and Filing in a Window Period

b. Statement if Under Exam and Filing with Director Consent

c. Additional Statements May Be Required for Certain Method Changes

E. IRS National Office Review and Director Review

1. In General

2. National Office Review

3. Director Review

F. Significant Automatic Accounting Method Changes

1. Automatic Depreciation Method Changes

2. Automatic Method Changes for Costs to Create or Acquire an Intangible Asset

3. Automatic Method Changes from the Hybrid Method to the Accrual Method Under Rev. Proc. 2002-9

4. Automatic Accounting Method Changes for Advance Payments

5. Automatic Method Change for LIFO Termination

VI. Statutorily Mandated Changes

A. General Discussion

B. Examples of Statutorily Mandated Changes

1. Limitation of Use of Non-Accrual Experience Method

2. Cash to Accrual

a. General Discussion

b. Definition of Gross Receipts

3. Section 263A Exception for Small Retailers

4. Change to the Specific Charge-Off Method for Large Banks

VII. Section 381 Changes

A. General Discussion

B. Overall Accounting Methods

1. In General

2. Separate Trades or Businesses

3. Integrated Trades or Businesses

a. In General

b. Same Methods

c. Different Methods

d. Treatment of § 481(a) Adjustment

e. Examples

C. Accounting Method for Separate Items

D. Inventory Changes

1. In General

2. Separate Component Trades or Businesses

3. Integrated Component Trades or Businesses

VIII. Involuntary Changes

A. General Discussion

B. Involuntary Changes in Accounting Method

1. Accounting Method Changes

2. Special Considerations for LIFO Inventory Changes

3. Non-Accounting Method Change

C. Reduction of Tax on § 481(a) Adjustment

1. Computing the Tax Liability if § 481(b) Applies

2. Recomputation for Past Years Under New Accounting Method - § 481(b)(2)

3. Special Rules - § 481(b)(3)

D. Pre-1954 Balance Excluded from § 481(a) Adjustment in IRS-Initiated Changes

1. In General

2. Exclusion of Pre-1954 Balance from Net § 481(a) Adjustment

a. General Discussion

b. Computing the Pre-1954 Balance

c. Voluntary Method Changes

IX. Unauthorized Changes

A. Consent Requirement

B. IRS May Accept or Reject Change on Examination

C. Acceptance on Audit Does Not Necessarily Constitute Permission to Change Accounting Methods

D. Considerations Before Making an Unauthorized Change

X. Accounting Method Changes Not Governed by § 446

A. General Discussion

B. Common Examples of Accounting Methods Not Governed by § 446

1. Deduction for Research and Experimental Expenditures

2. Prepaid Subscription Income

3. Anticipated Returns of Newspapers, Paperbacks, Etc.

C. Year-by-Year or Project-Specific Timing Elections

1. General Discussion

2. Depreciation Elections

3. Section 59(e) Elections

4. Section 263(a) - Simplifying Conventions

5. OID Election

6. Developers’ Common Area Costs

XI. Non-Timing Issues

A. Introduction

B. Consequences of Changing Treatment of a Non-Timing Issue

XII. Transition to New Accounting Method - Section 481(a) Adjustment Mechanism and Other Change Mechanisms

A. Introduction

B. Section 481 Adjustment Mechanism

1. Method Change Causes Duplications or Omissions

2. The § 481(a) Adjustment

3. Impact of Inventory Calculation on § 481(a) Adjustment

4. Inclusion of Adjustment in Income

a. Introduction

b. Multiple Changes - Separate Businesses - Consolidated Returns

c. Spread Period May Be Shortened

(1) De Minimis Rule

(2) Cooperatives

(3) Subsequent Events Cause Acceleration of Adjustment

(a) Cessation of Trade or Business

(i) In General

(ii) Section 381 Transfers

(iii) Transfers Pursuant to § 351 Within a Consolidated Group

(b) Subsequent LIFO Elections - Possible Acceleration

(c) Election of S Corporation Status After LIFO Inventory Termination

d. Short Period as a Separate Taxable Year

e. Effect on Earnings and Profits and Alternative Minimum Tax

C. The Cut-Off Change - How It Operates, and When It Applies

1. Research and Experimental Costs.

2. Prepaid Subscription Income

3. Modified § 481(a) Adjustment - Cut-Off Method

D. The “Suspense Account” Change

XIII. Miscellaneous Issues

A. Interaction Between § 481 and Mitigation Provisions - § § 1311–1314

B. Interaction Between the Research Credit and the Accounting Method Change Rules

C. Interaction with Other Provisions of the Code


WORKING PAPERS

Working Papers

Table of Worksheets

Additional Resources:

Worksheet 1 Form 3115 Annotations

Worksheet 2 Sample Transmittal Letter to Accompany Form 3115*

Worksheet 3 Fact Pattern and Sample Form 3115, Application for Change in Accounting Method, for Change to Recognize Revenue Upon Delivery of Goods

Worksheet 4 Fact Pattern and Sample Form 3115, Application for Change in Accounting Method, for Software Development Costs

Worksheet 5 Sample Delegation of Power of Attorney; Sample Declaration of Taxpayer's Representative; Sample Form 2848, Power of Attorney and Declaration of Representative*

Worksheet 6 Schedule of Common Problems With Form 3115 Submissions

Worksheet 7 Schedule of Common Problems With Form 2848, Power of Attorney and Declaration of Representative, Accompanying Form 3115

Worksheet 8 Sample Letter Requesting Director Consent

Worksheet 9 Sample IRS Letter Requesting Information on Pending Method Change Request

Worksheet 10 Sample Letter to IRS Containing Requested Supplemental Information With Attestation Clause

Worksheet 11 Sample IRS Letter Granting Permission to Change Accounting Method

Worksheet 12 List of Current Automatic Accounting Method Change Procedures1

Worksheet 13 Excerpt from IRS Publication 538, Accounting Periods and Methods

Bibliography

OFFICIAL

Statutes:

Regulations:

Treasury Rulings:

Notices:

Cases:

UNOFFICIAL

1959

1960

1973

1974

1975

1976

1977

1978

1979

1980

1981

1982

1984

1985

1990

1992

1993

1994

1995

1996

1999

2000

2001

2002

2003

2004