Tax Accounting
On Jan. 16, 2015, the IRS released updated and revised guidance for obtaining advance consent for nonautomatic accounting method changes and obtaining automatic consent for specified automatic accounting method changes. The automatic procedures were last updated in 2011 (Rev. Proc. 2011-14), and the nonautomatic procedures had not been completely updated since 1997 (Rev. Proc. 97-27). Both procedures, however, had been modified by subsequent guidance. With the issuance of the new guidance, the procedures for filing a Form 3115, Application for Change in Accounting Method, for both automatic and nonautomatic method changes have been combined into one procedure (Rev. Proc. 2015-13), and the list of automatic method changes has been separated into its own procedure (Rev. Proc. 2015-14) for the first time.
Scope Eligibility
Except for the provisions that now apply when a taxpayer is under examination as discussed below, most of the other eligibility rules are the same as in prior guidance. Like Rev. Proc. 97-27, Rev. Proc. 2015-13 prohibits a change that qualifies for automatic consent from being filed under the nonautomatic change procedures. Additionally, the new procedures memorialize the IRS's previously unwritten policy of generally prohibiting nonautomatic changes in the final year of a taxpayer's trade or business. However, a taxpayer may potentially overcome this restriction and make a nonautomatic method change in the final year of its trade or business if it can demonstrate compelling circumstances or that the change is in the interest of "sound tax administration." A taxpayer may still request a nonautomatic change for the same item within five years of a prior change—whether or not the prior change was implemented—but the taxpayer must explain why another change should be granted and, if applicable, why the prior change was not implemented.
Again, the majority of eligibility rules for automatic method changes have not been changed by the new guidance. As in Rev. Proc. 2011-14, a taxpayer in most cases involving a tax-free liquidation or reorganization transaction to which Sec. 381(a) applies in the year of change may request a voluntary change in method either:
- When no method change is required by the regulations by reason of the combination; or
- When a change is required but the parties want to opt out of the regulatory procedures either to change to a nonprincipal method or to obtain the audit protection provided by the voluntary change procedures.
The requested year of change cannot be the final year of the trade or business, with exceptions; and the taxpayer cannot have made or requested a change in overall method or a change for the same item during any of the five tax years ending with the year of change. As in Rev. Proc. 2011-14, these requirements can be waived under the terms of a specific automatic change.
Terms and Conditions
For a taxpayer under examination, the most significant change in the procedures is the IRS's substitution of the prior eligibility restrictions with modified terms and conditions for situations in which a taxpayer previously would have been ineligible for a voluntary change. Certain terms and conditions for making a method change under Rev. Proc. 2015-13 now vary depending on whether a taxpayer is under examination, unless a taxpayer can meet an examination exception. A taxpayer that is not under examination at the time it files a Form 3115 generally will receive the following terms and conditions:
- Audit protection (when a taxpayer files a voluntary accounting method change, an examining agent is precluded from making an adjustment to the taxpayer's method of accounting for the item being changed for any year prior to the year of change on the Form 3115);
- A one-year pickup of a negative (taxpayer-favorable) Sec. 481(a) amount; and
- A four-year adjustment period for a positive (taxpayer-unfavorable) Sec. 481(a) amount (unless the change is made automatically and the terms and conditions of the specific automatic change modify these terms and conditions).
A taxpayer under examination that qualifies to file Form 3115 under an exception discussed below may also receive these terms and conditions. On the other hand, a taxpayer under examination that cannot meet an exception will not receive audit protection and will receive only a two-year adjustment period for a positive Sec. 481(a) amount.
The new procedures continue to permit a taxpayer to elect to recognize a de minimis positive Sec. 481(a) amount entirely in the year of change. The de minimis amount has been raised from less than $25,000 to less than $50,000. Although helpful, this increased amount does not mitigate unnecessary administrative complexity for many taxpayers. In a comment letter to the IRS, the AICPA recommended a de minimis amount of $1 million (see AICPA letter dated Feb. 15, 2008).
The new procedures add an option for a taxpayer to elect a one-year Sec. 481(a) adjustment period for all positive adjustments for the year of change if an "eligible acquisition transaction" occurs during the year of change or in the subsequent tax year on or before the due date (including extensions) for filing the taxpayer's federal income tax return for the year of change. An eligible acquisition transaction is (1) for a controlled foreign corporation (CFC) or corporation other than an S corporation, an acquisition of stock ownership interest in the taxpayer by another party that either results in the acquisition of control of the taxpayer or causes the taxpayer's tax year to end, or an acquisition of assets in a transaction to which Sec. 381(a) applies; or (2) for all other taxpayers, another party's acquisition of an ownership interest in the taxpayer that does not cause the taxpayer to cease to exist for federal income tax purposes.
Changes That Affect Taxpayers Under Exam
The most significant changes in the new procedures affect the terms and conditions for requesting an accounting method change for a taxpayer under examination. Under the prior procedures, a taxpayer under examination could not file a Form 3115 for either an automatic or nonautomatic change unless an exception applied: It filed during a "window period" (either the 90-day window or 120-day window), received director consent, filed an automatic change that did not provide audit protection, or had an issue pending.
Under Rev. Proc. 2015-13, a taxpayer under examination generally may file an automatic or nonautomatic Form 3115 at any time but will have harsher terms and conditions—the taxpayer will not receive audit protection and will have only a two-year adjustment period for any positive Sec. 481(a) adjustment—if it cannot file under an exception, including one of the two available window periods.
Essentially, the new procedures retain the 120-day window and specified automatic changes that do not provide audit protection, but replace the director-consent option with two new exceptions: present method not before the director and change resulting in a negative Sec. 481(a) adjustment. A taxpayer may use the "present method not before the director" exception if the taxpayer is changing from a clearly permissible method or changing from an impermissible method adopted after the year or years under examination. The "change resulting in a negative § 481(a) adjustment" exception is available for a taxpayer making a method change with a negative Sec. 481(a) adjustment in the year of change and in the years under examination. (The taxpayer must determine whether the change would have resulted in a negative Sec. 481(a) adjustment in each tax year under examination if the change in method of accounting for that item had been made in the tax year or years under examination.) A new exception allows a corporation (that is not under examination) that becomes a member of a consolidated group (that is under examination because it participates in the Compliance Assurance Process) to file a Form 3115 for the year the corporation becomes a member of the consolidated group, provided the issue is not under consideration in an examination.
Rev. Proc. 2015-13 retains the former 90-day window but calls it a three-month window and alters the timing of the window. It now occurs around the time of the extended tax return due date (beginning two months before and ending one month after) instead of the first 90 days of the year. As under the previous 90-day window rule, a taxpayer that has not been under examination for 12 consecutive months or has the item raised as an issue under consideration may not use the three-month window.
The timing change was primarily in response to a procedural issue that arose under the old rules when a taxpayer under exam identified an impermissible accounting method near the time its tax return was filed. In those situations, unless the taxpayer happened to be in the 120-day window, the taxpayer would not be eligible for a voluntary change with audit protection when it would be filing its tax return. The timing of the new three-month window will now enable more taxpayers to file voluntary accounting changes with audit protection when an impermissible method is discovered during the tax return preparation process.
In several situations, however, the movement of the three-month window may present an unfavorable trade-off for taxpayers. If a taxpayer discovers the impermissible method much earlier than the extended due date for the tax return, it would not be able to file a Form 3115 with audit protection until later in the year, which might prevent the taxpayer from taking the change into account for financial reporting purposes early in the year. Also, a taxpayer that files its tax return early would not be able to use the three-month window to obtain audit protection for a change to be implemented in the prior year, or early audit protection of a change to be implemented in the current year, which taxpayers could do under the prior procedures when the 90-day window period occurred at the beginning of the year.
Controlled Foreign Corporations
The prior procedures contained some special rules for CFCs that were perceived to impose more restrictions on CFCs making voluntary changes than for U.S. domestic taxpayers. The IRS received comments urging that similar standards and procedures be applied to CFCs in the new guidance because the policy of promoting voluntary compliance should be the same in both contexts (see AICPA letter dated July 30, 2012). But, instead of establishing more parity between U.S. domestic taxpayers and CFCs, the new procedures impose more restrictive conditions on CFCs seeking to file accounting method changes.
For example, to use the three-month window, a CFC's controlling domestic shareholders that are under examination must be under examination for at least 24 consecutive months, instead of the 12-month requirement for any other type of entity. Additionally, the window is only available if the method of accounting to be changed either is not an issue under consideration in an examination at the time the Form 3115 is filed (under the same standard as for domestic corporations) or has been an issue under consideration (under the more expansive standard for CFCs) for at least 24 consecutive months.
Rev. Proc. 2015-13 no longer allows CFCs to use the 120-day window period. The new procedures also continue to provide, as in the earlier procedures, that an issue involving any accounting method for any specific item is considered to be under consideration if the taxpayer has received written notification that earnings and profits in general is an issue in the examination. (For U.S. domestic corporations, an accounting method is not under consideration unless the specific accounting method being changed is cited in writing as being under examination.)
General Application Procedures
The time for filing both automatic and nonautomatic changes remains unchanged. Thus, a taxpayer must file a nonautomatic change application during the year of change and has until the extended due date of the tax return to file the application for an automatic change. In the case of automatic changes filed between the beginning of the year and the tax return due date for the prior year (including extensions), a taxpayer will continue to have the choice to file the accounting method change for the prior tax year or the current tax year.
Rev. Proc. 2015-13 continues the practice of allowing certain types of entities that are making the identical change in method of accounting to file their request on the same Form 3115. This reduces the number of forms that must be completed and, more importantly, now that the user fee required for nonautomatic changes has increased, will reduce the user fee when multiple applicants file on one Form 3115.
Rev. Proc. 2015-13 now defines "Form 3115," in part, as the Form 3115 most recently released by the IRS. This will eliminate uncertainty when the IRS releases an updated Form 3115, because an effective date or transition period is generally not provided. This definition now requires any updated Form 3115 to be used immediately.
Rev. Proc. 2015-13 provides procedures for filing a "short Form 3115." On a short Form 3115, only certain information is required to be completed, as specified in Section 3.07(2) of Rev. Proc. 2015-13 and the applicable automatic method change. At this point, only a few types of changes qualify to file a short Form 3115. Under Rev. Proc. 2011-14, these method changes allowed a taxpayer to file a statement in lieu of the Form 3115; now they require a short Form 3115.
Additionally, a "qualified small taxpayer"—a taxpayer whose average annual gross receipts for the three preceding tax years are less than or equal to $10 million—may be allowed to file a Form 3115 that includes only certain information. The procedure provides the details required for each automatic change for which a qualified small taxpayer may file a shortened Form 3115. While this type of reduced information on the Form 3115 was previously permitted for only a few method changes, Rev. Proc. 2015-14 expands the number of changes eligible for the process.
Transition Rules
The procedures in Rev. Proc. 2015-13 are effective for Forms 3115 filed on or after Jan. 16, 2015, for years of change ending on or after May 31, 2014. Based on the transition rules, it appears the IRS intended to have the new procedures applied to method changes on a cutoff basis; that is, the new rules will apply to all requests for years of change after Jan. 31, 2015, with a limited option to apply the old rules for tax years ending on or before Jan. 31, 2015.
The transition rules permit a taxpayer to file an automatic accounting method change under the superseded procedures in Rev. Proc. 2011-14 for a tax year ended on or after May 31, 2014, and on or before Jan. 31, 2015. The Form 3115 must be filed by the due date of the taxpayer's timely filed (including any extension) original federal income tax return for the requested year of change. (A similar rule was provided for nonautomatic changes; however, the Form 3115 had to be filed on or before March 2, 2015, for the superseded procedures in Rev. Proc. 97-27 to apply.) Given the significant nature of the procedural changes for taxpayers under examination, the option to continue using Rev. Proc. 2011-14 through tax years ending on or before Jan. 31, 2015, provides welcome relief.
A taxpayer that does not elect to apply the transition rule must use Rev. Proc. 2015-13 to file its Form 3115.
EditorNotes
Mary Van Leuven is director, Washington National Tax, at KPMG LLP in Washington.
For additional information about these items, contact Ms. Van Leuven at 202-533-4750 or mvanleuven@kpmg.com.
Unless otherwise noted, contributors are members of or associated with KPMG LLP.
This column represents the views of the authors only and does not necessarily represent the views or professional advice of KPMG LLP. The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser. ©2015 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
