1

Accounting Periods

Bus 223F

2

How would you write the accounting period rules?

3

What is the purpose of an accounting period?

Allow for reporting of taxable income on a regular basis

Allow for a consistent treatment for calculating taxable income and tax

4

How long should the period be?

A consecutive period of 12 months unless it is a short period (such as first or last tax year or one that results from a change in period)

5

What possible abuses might occur if taxpayers had full control over selecting their accounting period?

Might select one that does not tie to books

Might end in middle of a month Might not be 12 months long Might end on 2/29

6

Should a natural business year be used?

How to define and identify? Look for time when sales peak (end of

natural year) Should at least be a calendar year or

fiscal year

7

Should period be same as for books?

Advantages: No special journal

entries or add’l set of books needed to computer taxable income

Less chance of taxpayer abuse

Disadvantages: No extra tax

planning opportunities

May create too much work for preparer

8

What if business uses a 52/53 week year for books?

Ok to use for tax (441(f)) Is a fiscal year

9

What is appropriate period for a passthrough entity?

One that doesn’t result in too much opportunity for owners to defer reporting of the passthrough entity income

Fiscal or calendar year Note – partnerships and S

corporations have required tax years

10

What is appropriate period for individuals without a business?

Calendar year Same that records are based on –

usually calendar year

11

How should t/p notify IRS of its accounting period?

Form 1128 On initial return Or here are some simplifying ideas:

Via email Via phone call[the above assume you want IRS to know

before the first return is filed or you want a simpler change process]

12

Challenges

Does everything happen neatly in a specified period? NOL that is in effect paid for with funds from

past and/or future tax years Arrowsmith doctrine + Rev Rul 79-278 Claim of right & §1341 Mitigation of statute (§1311 – §1314)

What if t/p deducts something in 1 period but gets it back in a future period? (like an individual’s state income tax refund)?

What if a taxpayer wants to change their accounting period?

13

Accounting periods

§441 – Period for computation of taxable income

§442 – Change of annual accounting period §443 – Returns for a period of less than 12

months §444 - Election of taxable year other than

required taxable year §7519 - Required payments for entities electing

not to have required taxable year §280H - Limitation on certain amounts paid to

employee-owners by personal service corporations electing alternative taxable years

14

Definitions in IRC §441 and 1.441-1

Taxable year Annual accounting period

Calendar year Fiscal year

12 months ending on last day of any month other than December

52/53 week year

Required tax year

15

AB Corp changes from 4/30 TY to calendar year. “Short period” is …

1 2 3

0% 0%0%

1. 5/1 – 12/31*2. 1/1 – 4/303. There is no short

period

* Per 443(a)(1) – “When the taxpayer, with the approval of the Secretary, changes his annual accounting period. In such a case, the return shall be made for the short period beginning on the day after the close of the former taxable year and ending at the close of the day before the day designated as the first day of the new taxable year.”

16

Issues to be addressed when have a short TY caused by period change

Annualize TI and regular tax and AMT calculations

Does it count as a full year in counting loss and credit carryover periods? Generally yes Recall special rule in RP 2004-34

17

X Corp changes TY from calendar year to Saturday closest to 12/31 (1/2/2010)

1 2 3 4

0% 0%0%0%

1. X must file a short period return of 2 days

2. X may add the 2 days to its 12/31/09 return

3. X may add the 2 days to its 12/31/10 return

4. X may do any of the above

#3 is the required answer per the 441 regs

18

Y changes from 4/30 TY to 52/53 week year ending on last Sat of April (4/27/02)

1 2

0%0%

1. Y treats short year 5/1/01 to 4/27/02 on annual basis

2. Because short period is 359 days or more, no need to annualize

#2 is the required answer per the 1.441 regs

19

Required tax years – 1 [Question #3]

Entity Required TY Per IRC §

PSC Calendar year unless establish business purpose or can make 444 election

441(i)1.441-3

S Corp Calendar year unless establish business purpose or can make 444 election

1378

P/S (see later slide) 706(b)(1)1.706-1

C other than PSC

Any

Trust Generally must use calendar year except for tax-exempt trusts and charitable trusts

645

20

Required tax years - 2

C other than PSC

Any

Trust Generally must use calendar year except for tax-exempt trusts and charitable trusts

645

Members of affiliated group filing consolidated return

1.442-1(c) – automatic change procedure for sub required to change its TY1.1502-76(a) – consolidated return must be filed on basis of common parent’s annual acctg period. Each sub must adopt parent’s TY for first consolidated return year for which sub is included. If any member is on 52/53 week TY, if get advance consent, req for same TY deemed satisfied if TYs of all members of group end within same 7-day period. RP 89-56, as modified by RP 2006-21.

1.1502-76

1.442-1(c)

21

Partnership required TY

Must use first one of following which exists: Majority interest TY TY of all principal partners (ptr with

interest in p/s profits or capital > 5%) TY resulting in least aggregate deferral

(see regs) Unless p/s establishes business

purpose for a different TY or makes a 444 election

22

Majority interest tax year – 706(b)(4)

(A) Majority interest taxable year defined. For purposes of paragraph (1)(B)(i) —

(i) In general. The term “majority interest taxable year” means the taxable year (if any) which, on each testing day, constituted the taxable year of 1 or more partners having (on such day) an aggregate interest in partnership profits and capital of more than 50 percent.

(ii) Testing days. The testing days shall be— (I) the 1st day of the partnership taxable year (determined

without regard to clause (i) ), or (II) the days during such representative period as the Secretary

may prescribe. (B) Further change not required for 3 years. Except as

provided in regulations necessary to prevent the avoidance of this section , if, by reason of paragraph (1)(B)(i) , the taxable year of a partnership is changed, such partnership shall not be required to change to another taxable year for either of the 2 taxable years following the year of change.

23

Ptr A owns 60% uses 6/30 TYPtr B owns 40% uses calendar year

Question 4a (see handout for answers to 4b and 4c)

1. Partnership AB must use the calendar year

2. Partnership AB must use 6/30

3. Partnership AB can select either 6/30 or 12/31

#2 is the answer per §706 – the majority interest tax year

24

Basics of §444

Enacted in 1987 to address “workload compression”

Only for S corp, PSC and P/s Allows for no more than 3 months deferral from

required TY EX – p/s required TY = 9/30

§444 options are 8/31, 7/31 or 6/30 If already using required TY, too late typically to

make 444 election P/S and S corp – must make required payments

under §7519 At highest individual rate + 1 percentage point Basically keeping a non-interest bearing deposit at IRS

PSC must make required distributions under §280H