Ever since Congress added section 451(b) to the tax code in 2017, accrual-method taxpayers have eagerly awaited guidance concerning this new “no-later-than” revenue recognition rule. To refresh our memories on the relevant rules, accrual-method taxpayers generally recognize revenue the earlier of when due, received, or earned. Section 451(b) states that this all-events test is satisfied no later than when the taxpayer recognizes the revenue on an applicable financial statement.
In creating this additional prong, 451(b) dramatically changed the federal revenue-recognition landscape, one to which the IRS and Treasury have, as of yet, failed to map. Their task involve plotting courses through some murky areas such as:
- What is the scope of, “special method of accounting?”
- Will section 451(b) require taxpayers to recognize contingent income recorded for financial statement purposes?
- What limitations will section 61 and the judicial interpretations of gross income (as accessions to wealth) have on section 451?
To add to the confusion, many taxpayers have been dreading the possibility of needing to choose between non-compliance for 2018 or implementing the change under the non‑automatic procedures that implement taxpayer’s guess at how the rule works.
While the “map” is still missing, the IRS has at least cleared some debris from taxpayers’ potential paths. The release of Rev. Proc. 2018-60 contains automatic procedures for taxpayers filing method changes to implement either section 451(b)(1)(A) or 451(b)(4) (the “no-later-than” rule and conformity for transaction price allocations).
The primary takeaway from this revenue procedure, at this point, is that taxpayers need not rush to file non-automatic method changes before year-end to implement section 451(b): automatic changes have an expanded filing period that runs through the due date of the extended return. The Revenue Procedure also serves as notice that, hopefully, substantive guidance will come before the due date for 2018 returns.
Notable specifics of the procedure include:
- Applicability to taxable years beginning after Dec. 31, 2017 except for changes related to income from debt instruments with original issue discount (OID). The change is available for OID items taxable years beginning after Dec. 31, 2018.
- A six-year adjustment period for 481(a) adjustments related to OID.
- An optional streamlined procedure that trades off audit protection for administrative ease. The streamlined procedure is available to:
- Non-tax shelter taxpayers that meet the small business taxpayer test of section 448(c) (average annual aggregated gross receipts for three prior periods of $25 million or less), and
- Taxpayers for whom the required 481(a) adjustment for each separate change is zero (without any netting).
- Under the streamlined method, taxpayers need not file a Form 3115 with their income tax return nor send a duplicate Form 3115 to the IRS in Covington, Kentucky; however if a taxpayer chooses the streamlined approach, it does not receive prior-year audit protection.
- The eligibility rule generally prohibiting automatic consent when an overall method change was filed within the past five years is waived for taxpayers’ first three tax years beginning after Dec. 31, 2017 (or Dec. 31, 2018 for OID changes). The IRS reduced the waiver period to only the first taxable year beginning after Dec. 31, 2017 for taxpayers filing under the streamlined procedures.
- Taxpayers changing more than one item under this revenue procedure may file the changes on a single Form 3115, but must separately state the 481(a) for each and may not net the adjustment with the adjustments from other changes.
- Taxpayers filing to implement both the transaction price allocation rules and the “no‑later-than” rules must implement the transaction price allocation rules first.
- Taxpayers filing changes under this new procedure and under the previously issued guidance concerning ASC 606 (see Limited accounting method changes now available for ASC 606 adoption) may file a single Form 3115 but must implement the new standards change prior to the Rev. Proc. 2018-60 change.
- The designated accounting method change number for this change is “239.”
With the procedural guidance for the new revenue recognition rules released, taxpayers may be eager to move forward with filing their required accounting method changes. However, while we have seen bits of substantive revenue recognition guidance trickle out during 2018 (see No acceleration of market discount income under new section 451(b) and IRS releases transitional guidance on advance payments), many questions remain unanswered. In many cases, staying the course and waiting for additional guidance may be the best approach. While certain taxpayers may be able to file now with little risk, taxpayers should first consult a trusted tax adviser to ensure that the proper new method is clear.