IRS issues guidance for method changes under proposed section 451 regs
TAX ALERT |
One day after the release of an advanced copy of proposed regulations under section 451 (see our alerts on Reg. sections 1.451-3 and 1.451-8, and interest provisions of 1.451-3), the IRS issued administrative procedures for taxpayers to obtain automatic consent of the Commissioner to change methods of accounting to comply with section 451 and the proposed regulations under Reg. sections 1.451-3 and 1.451-8.
The release of Revenue Procedure 2019-37 modifies the existing automatic change procedure for revenue recognition, previously released on Nov. 29, 2018 and discussed here. This release incorporates changes required from the release of proposed regulations under section 451. A noteworthy item to draw attention to first is the IRS has relaxed its general procedural rules limiting audit protection for taxpayers currently under exam. For the taxpayer’s first, second or third taxable year beginning after Dec. 31, 2017, the IRS will grant prior year audit protection to changes made to comply with the proposed regulations under Reg. sections 1.451-3 and 1.451-8, except for a change related to specified credit card fees. Those changes receive audit protection for the first, second or third taxable year beginning after Dec. 31, 2018. The positive adjustment period for a taxpayer under exam remains at a two-year adjustment period rather than the general four-year adjustment period.
As hinted at above, the revenue procedure includes automatic changes for taxpayers with an applicable financial statement (AFS) to:
1. Change to a method of accounting that complies with the proposed regulations under Reg. section 1.451-3 (income inclusion proposed regulations) (including a change for a specified credit card fee under Reg. sections 1.451-3(i) and 1.1275-2(l), or
2. Change to a method of accounting that complies with the proposed regulations under Reg. section 1.451-8(c) (advance payment proposed regulations).
In what appears to better align concurrent changes, the revenue procedure now allows taxpayers that are changing to a method of accounting to comply with the all events and income acceleration provisions under section 451(b) or changing to a method of accounting that complies with the proposed regulations under Reg. section 1.451-3 to implement the requested change on a cut-off basis or with a section 481(a) adjustment, provided the taxpayer is filing a concurrent change to comply with the ASC 606 New Standards. The availability of a cut-off change eliminates potential confusion for taxpayers as the New Standards change allowed a taxpayer to utilize either a cut-off change or a section 481(a) adjustment, but the previous terms and conditions for a change under section 451(b) only provided the normal section 481(a) terms and conditions.
Similarly, a taxpayer making a change that complies with the proposed advance payment regulations can also implement the change on a cut-off basis or utilize a section 481(a) adjustment. This is welcome news to certain taxpayers that were on a longer deferral method and now must comply with the more limited one-year deferral method under section 451(c). See our previous alert here on the revocation of the multi-year deferral method for advance payments.
Taxpayers that take advantage of streamlined filing procedures for either of these changes are, however, precluded from implementing any of the above changes on a cut-off basis.
Non-AFS taxpayer modifications:
The revenue procedure also provides taxpayers without an AFS (generally an audited financial statement) an automatic change to comply with the proposed regulations under Reg. section 1.451‑8(d) (non-AFS deferral method for advance payments).
A point of concern is that non-AFS taxpayers are not allowed under the automatic procedures to make a change to a method of accounting that treats an item of gross income, or portion thereof, as meeting the all events test no later than when such item, or portion thereof, is taken into accounting as revenue in its AFS under section 451(b)(1)(A) (the AFS Income Inclusion Rule). Guidance released by the IRS after the issuance of automatic changes to comply with section 451(b)(1) indicated that AFS taxpayers could change, under the automatic procedures, methods of accounting for revenue recognition not only for the AFS Income Inclusion Rule, but also for impermissible methods of accounting that did not align with the all events test.
RSM will be issuing a series of in-depth guidance on these proposed regulations, proposed regulations under Reg. section 1.451-3, the release of automatic change procedures to comply with the regulations and the overall impact and tie-ins to entities that are still in the process of adopting the financial accounting revenue recognition standard. Stay tuned for those release items.
The revenue recognition proposed regulations and procedural guidance are wide-reaching. Revenue is perhaps the most critical material item in a company’s trial balance and ensuring proper methods of tax recognition is critical to compliance, planning and cash-tax forecasting. The wave of changes as a result of the financial accounting standard and tax law changes create a focus and urgency for almost every taxpayer to review tax methods of accounting related to revenue recognition