IRS issues proposed procedures on revenue recognition method changes

Authored by Kathleen Meade and Michelle Hobbs

On March 28, 2017, the IRS issued Notice 2017-17, providing proposed procedures that, if finalized, may be used in certain circumstances to request consent to change a method of accounting for recognizing income related to the adoption of the new financial accounting revenue recognition standards. In addition, the notice requests comments on the proposed procedures plus various issues, including several raised previously in Notice 2015-40 published June 15, 2015. Comments are due July 24, 2017.

Background:

On May 28, 2014, new financial accounting standards were issued for recognizing revenue from contracts with customers that are effective for annual reporting periods beginning after Dec. 15, 2018, for most clients. Publicly traded entities, certain not-for-profit entities and certain employee benefit plans must implement the standards one year earlier (i.e., for annual reporting periods beginning after Dec. 15, 2017).

On June 15, 2015, the IRS published Notice 2015-40, requesting comments on federal tax accounting issues related to the adoption of the new standards. See our Aug. 10, 2016, insight for further discussion of the tax revenue recognition rules and accounting method change procedures as well as the revenue methods and industries most likely to be affected by the new standards.

Proposed automatic accounting method change revenue procedure:

Key provisions in the proposed procedures include the following:

  • Qualifying same-year method changes. The proposed automatic method change procedures apply only to a “qualifying same-year method change,” which is defined as “a change of method of accounting for recognizing income that is made for the same year as the year the taxpayer adopts the new standards and made as a result of, or directly related to, the adoption of those standards.”
  • Existing automatic change. A qualifying same-year method change that is included in the List of Automatic Changes under Rev. Proc. 2017-30, and otherwise meets the automatic change eligibility requirements in Rev. Proc. 2015-13, must be implemented using the existing automatic change procedures.
  • No existing automatic change. Alternatively, a qualifying same-year method change that is not included in the List of Automatic Changes but which complies with section 451 of the Code or other guidance, and meets the automatic change eligibility provisions in Rev. Proc. 2015-13, must file Form 3115 under the automatic change procedures, write “Rev. Proc. 2017-XX” followed by the applicable citation to section 451 or other relevant legal authority on line 1(b) of Form 3115, and attach a brief description of the change and why it satisfies the authorities referenced in line 1(b).
  • Cut-off method for small taxpayers. In an effort to reduce the administrative burden of implementing accounting method changes related to the new revenue recognition standards, certain small taxpayers are permitted to make the change on a cut-off basis (i.e., without a section 481(a) adjustment). In general, an eligible small taxpayer is a taxpayer with one or more separate trade(s) or business(es) that individually have (a) total assets of less than $10 million as of the first day of the taxable year of change, or (b) average annual gross receipts of $10 million or less for the three taxable years preceding the change year.

Multiple requests to make qualifying same-year method changes may be made in one request.

Implications/action required:

Although the proposed guidance is not effective until finalized, it provides helpful insight into the approach the IRS intends to take with respect to granting tax accounting method changes related to the new revenue recognition standards. In particular, the ability to make changes using the more favorable automatic change procedures (which allow additional time to file Form 3115 and do not require payment of a user fee) and to permit small taxpayers to reduce the compliance burden using a cut-off method are welcome developments. Moreover, allowing the small taxpayer thresholds to be applied at the trade or business level, rather than in aggregate, should enable more taxpayers to qualify for the simplified cut-off approach.

If finalized in their current form, these favorable procedures will only be available for a limited time (i.e., tax method change(s) must be implemented in the same year the new standards are adopted). Therefore, taxpayers are advised to begin the process of assessing the impact of the new revenue standards on their current tax revenue recognition methods so they are prepared to implement any necessary accounting method changes within the timeline specified in the final procedures.

For more information on this topic, or to learn how Baker Tilly tax specialists can help, contact our team.


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