Tax preparers were provided with an abundance of planning opportunities for their clients with the enactment of the law known as the Tax Cuts and Jobs Act (TCJA), P.L. 115-97. The changes in Section 13102 of the TCJA increase the pool of taxpayers qualifying for favorable small business accounting method reform and provide simplification with a reduced filing requirement. The changes grant relief and will save time and money for both taxpayers and tax preparers.
Background
Section 13102 of the TCJA effectively increases the threshold for taxpayers qualifying to use the overall cash method of accounting under Sec. 448(c), from average gross receipts of $5 million to average gross receipts of $25 million. Small business taxpayers (SBTs) meeting the new requirement of Sec. 448(c) further qualify for exemption from the uniform capitalization (UNICAP) requirements under Sec. 263A, accounting for inventories under Sec. 471(c), exemption from the percentage-of-completion method (PCM) of contracts under Sec. 460, and capitalizing costs under Sec. 263A for certain home construction contracts. These changes generally take effect for tax years beginning after Dec. 31, 2017.
Rev. Proc. 2018-40 also simplifies requesting a change in accounting method by amending Rev. Proc. 2018-31 to add sections providing for automatic change requests for these changes.
Change to cash method (Rev. Proc. 2018-31)
The rules for changing from an accrual to a cash method of accounting in Section 15 of Rev. Proc. 2018-31 have been modified, and new Section 15.18 addresses the change. It allows an SBT (other than a Sec. 448(d)(3) tax shelter) with average gross receipts for the three prior tax years of $25 million or less to change its accounting method from the accrual method to the overall cash method of accounting. The SBT may still file for an automatic change request if it had previously requested an overall method change in the last five years and is not subject to any of these disqualifications:
- Not otherwise prohibited from using the cash method of accounting;
- Not otherwise required to use another method of accounting (e.g., mark to market);
- Not a bank changing to overall cash/hybrid method — Rev. Proc. 2018-31, Section 15.2; and
- Not a farming business changing to the overall cash method — Rev. Proc. 2018-31, Section 15.13.
Necessary adjustments are requiredunder Sec. 481(a).
Exemption from UNICAP (Section 12.16 of Rev. Proc. 2018-31)
An SBT meeting the Sec. 448(c) average gross receipts test discussed above and currently capitalizing costs under Sec. 263A can change its method of accounting to eliminate the requirement to capitalize those costs.
Effective date: This provision is effective for tax years beginning after Dec. 31, 2017. For its first through third tax years beginning after Dec. 31, 2017, a taxpayer may still file for an automatic change request if it had previously requested an overall method change in the last five years. Necessary adjustments are required under Sec. 481(a).
Disqualifications: An SBT no longer choosing to capitalize costs for home construction contracts under Sec. 263A should refer to Section 19.01 of Rev. Proc. 2018-31 for procedures for long-term contracts.
Exemption from accounting for inventories (Section 22.19 of Rev. Proc. 2018-31)
AnSBT meeting the Sec. 448(c) average gross receipts test discussed above accounting for inventories under Sec. 471 may change its method of accounting to treat inventories as nonincidental materials and supplies in which inventory is deducted when used or consumed under tangible property regulations, or conform to the taxpayer's method of accounting as reflected in its applicable financial statements (books/records prepared in accordance with the taxpayer's accounting procedures if financials are not prepared).
Effective date: This provision is effective for tax years beginning after Dec. 31, 2017. For the taxpayer's first through third tax years beginning after Dec. 31, 2017, a taxpayer may still file for an automatic change request if it had previously requested an overall method change in the last five years.
Necessary adjustments are required under Sec. 481(a).
Exemption from PCM (Section 19.01 of Rev. Proc. 2018-31)
An SBT meeting the Sec. 448(c) average gross receipts test discussed above may change its method for accounting for long-term contracts under Sec. 460 to an exempt contract method under Regs. Sec. 1.460-(4)(c), or stop capitalizing costs under Sec. 263A for certain home construction contracts.
Effective date: This provision applies to exempt long-term contracts entered into after Dec. 31, 2017, in tax years ending after Dec. 31, 2017. For its first through third tax years beginning after Dec. 31, 2017, a taxpayer may still file for an automatic change request if it had previously requested an overall method change in the last five years. The change is made on the cutoff method.
Disqualifications: Because nonexempt contracts (those that are expected to be completed in less than two years) can be accounted for differently from exempt long-term contracts, only taxpayers that previously adopted PCM accounting for exempt long-term contracts wishing to adopt another method should apply under this section.
Reduced filing requirement
Reporting the changes for Sec. 448, Sec. 263A, Sec. 471, and Sec. 460 has been simplified and requires a taxpayer to complete only the following information on Form 3115, Application for Change in Accounting Method:
1. Identification section of page 1, above Part I — applies to all four change sections;
2. Signature section at bottom of page 1 — applies to all four change sections;
3. Part I — applies to all four change sections;
4. Part II, all lines except line 16 — applies to all four change sections;
5. Part IV, all lines except line 25 — applies to all four change sections;
6. Schedule A, Part I, all lines except lines 3, 4, and 5 — applies only to Sec. 448 changes;
7. Schedule D, Part I — applies only to Sec. 460 changes; and
8. Concurrent change request — one Form 3115 — Sec. 448, Sec 263A, and Sec. 471 changes.
In summary, Rev. Proc. 2018-40 provides desired relief for SBTs and simplifies the overall filing process when changes apply.
EditorNotes
Michael D. Koppel, CPA (Retired)/PFS/CITP, is a retired partner with Gray, Gray & Gray LLP in Canton, Mass.
For additional information about these items, contact Mr. Koppel at 781-407-0300 or mkoppel@gggcpas.com.
Unless otherwise noted, contributors are members of or associated with CPAmerica International.
