Discussion:S corp with over $10M of gross receipts annually required to be accrual?

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Discussion Forum Index --> Advanced Tax Questions --> S corp with over $10M of gross receipts annually required to be accrual?


Discussion Forum Index --> Tax Questions --> S corp with over $10M of gross receipts annually required to be accrual?

Spdn4cr (talk|edits) said:

24 May 2011
I have gotten differing opinion on this topic from a few CPAs. I have a client S corp who has over $10M in average annual gross receipts for the last 3 years. I was told by another CPA that this would require the corp to be accrual. His partner confirmed this. However, this S corp has no inventory. It's receipts are from acting services only (movies, commercials, etc) but the main shareholder. I feel as though this company should NOT have to be accrual but I haven't found info otherwise. I was pointed to Rev. Proc 2002-28 but I feel as though that is primarily for companies with inventory that would otherwise be required to file accrual. We would like to remain cash basis if possible. Might anyone have any clarification on this? Thanks!

Spd

Marcilio (talk|edits) said:

24 May 2011
This may be a help.

from Rev. Proc. 2002-28

A client is a qualifying small business taxpayer if it meets the following requirements:

Average annual gross receipts for each tax year ending on or after December 31, 2000 did not exceed $10,000,000;

The client is not prohibited from using the cash method under Code Sec. 448. That is, it is not a C corporation or a partnership with a C corporation partner with gross receipts exceeding $5 million, or a tax shelter; and

The client's principal business activity is an eligible business.

A client's principal business activity is an eligible business if it does not fall within the following North American Industry Classification System (NAICS) codes:

Mining (NAICS codes 211 and 212)

Manufacturing (NAICS codes 31-33)

Wholesale trade (NAICS code 42)

Retail trade (NAICS codes 44 and 45)

Information industries (NAICS codes 5111 and 5122). 20

Spdn4cr (talk|edits) said:

24 May 2011
Thanks Marcilio. Yes, we've read that but it didn't really answer our question...or possibly we are not understanding it.

JR1 (talk|edits) said:

May 24, 2011
I think only C corps are required to be on accrual if over 10 mil, for the rest, you have to be in those NAICS codes/have inventory, etc.

Pegatha (talk|edits) said:

24 May 2011
I'm reading it that you have to meet all of those tests: $10 million gross receipts, not prohibited because of being a C corp with $5 million of gross receipts, and not an ineligible business activity. Once you fail one of the tests (gross receipts), you're no longer allowed to be on cash method, regardless of meeting the other tests. It's "and" not "or".

Fsteincpa (talk|edits) said:

24 May 2011
I am reading strictly from Marcilio's posting above and based on that, I kinda agree with Pegatha.

Must it meet ALL the requirements, or any particular 1, I imagine all.

Fsteincpa (talk|edits) said:

24 May 2011
Example 2 from 2002-28 seems to say the same thing. Plumbers don't tend to have inventory, yet he fails the Gross Receipts test, therefore accrual.

From 2002-28


Example 2—Satisfaction of the Average Annual Gross Receipts Test. Taxpayer is a plumbing contractor that installs plumbing fixtures in customers’ homes and businesses. Taxpayer reasonably determines that its principal business activity is construction, which is described in NAICS code 23. Taxpayer’s gross receipts at the end of the three preceding taxable years are:

   Gross receipts
   1998: $ 6,000,000
   1999: 9,000,000
   2000: 12,000,000 

Taxpayer’s average annual gross receipts for the three taxable-year period ending in the 2000 taxable year are $9,000,000 (($6,000,000 + $9,000,000 + $12,000,000) / 3 = $9,000,000). Taxpayer may use the cash method for all its trades or businesses pursuant to this revenue procedure for its 2001 taxable year because its average annual gross receipts for each prior taxable year ending on or after December 31, 2000, is $10,000,000 or less and its principal business activity is not described in the ineligible NAICS codes listed in section 4.01(1)(a)(i)–(v).

Spdn4cr (talk|edits) said:

24 May 2011
Thanks guys.

@Fsteincpa- that example would seem similar, I agree....

I just somehow feel like I'm missing something somewhere. In the entertainment industry many famous actors/actresses set up S-corps where their income flows through. The A list actors make well over $10M a year that comes through these companies but I don't ever recall seeing any of these companies taxed on the accrual basis. That's not to say they are doing it correctly...but it just seems odd that many firms use the cash basis for these companies without regard to this $10M rule.

JR1 (talk|edits) said:

May 24, 2011
Thanks. They wrote that silly thing backwards, like a few others' just to drive us a little bit CRAZIER!

Douglasholbrook (talk|edits) said:

25 May 2011
Guys, I think that we're missing what 448 says and paying too much attention to 2002-28. 448 requires accrual for essentially only C corps with > $5MM of average receipts. Spndr's client is an S corp, so 448 doesn't apply and no accrual is required. The only other time when the accrual method is required is if there is inventory, which doesn't apply to his service-based client.

2002-28 was enacted to give small businesses relief from the accrual method, mainly for businesses with < $10MM in average receipts. Since this taxpayer is not required to use the accrual method, no relief is needed.

Spdn4cr (talk|edits) said:

25 May 2011
I agree Doug, that's my approach as well. The problem is that people keep pointing out to me that 2002-28 specifically talks about service providers as well. As Fsteincpa points out above, example 2 of the rev proc gives an example about a plumber providing services and being at risk to be accrual if going over the $10M receipts threshold. It's not worded well because this example is unclear about whether there is inventory...though I don't really see how a plumber has inventory unless he is actually selling the items he's installing. In my experience I usually pay for the items that are being installed by a plumber at cost or purchase it myself so it's not really inventory to the plumber. Other than that though, I definitely agree with you...it's examples like this that make me hesitate somewhat. Thanks for the help.

Douglasholbrook (talk|edits) said:

25 May 2011
What I think is being left out (and should be inferred) is that the plumber was using the accrual method in those prior years. That is why he is trying to use 2002-28 to be eligible to convert to the cash method. The reason he was using accrual in those prior years may be because he was required to due to inventory, may have been at one point a C corp that fell under 448, or simply because his original accountant screwed up and put him on accrual even though he wasn't required to be. Whatever the reason, once you are accrual, you used to be stuck there unless you could get the Director or Secretary to approve a change, which they may or may not do. This RP was to make that approval automatic if you qualified, to provide relief to smaller businesses.

Spdn4cr (talk|edits) said:

25 May 2011
That makes sense Douglas. Thanks so much for the input.

Douglasholbrook (talk|edits) said:

26 May 2011
Did I really use "due" instead of "do"? Wow. Poof, it is gone.

Fsteincpa (talk|edits) said:

26 May 2011
I think Section 448(b)(2) would cover using cash basis. That's where it describes PSC of which performing artists would be classified, based on 448(d)(2)

I am also confused as to why they have the $5,000,000 gross receipts test and the $10,000,000 average gross receipts test. And only discussion of C Corps and partnerships. Never mention of an S Corp.

Again, I think your client, if they are a performing artist, should be a personal services corp anyhow and therefore would be allowed to use cash basis based on that exception.

PVCC-CCIFP (talk|edits) said:

2011-06-11
Spdn4cr:

The starting point to answer your questiion is Sec. 446 (c) Permissible methods

Subject to the provisions of subsections (a) and (b), a taxpayer

   may compute taxable income under any of the following methods of
   accounting -

(1) the cash receipts and disbursements method;

Douglasholbrook has got it exactly right in his initial May 25 posting, as evidenced by the section from Rev._Proc._2002-28:

"SECTION 1. PURPOSE In order to reduce the administrative and tax compliance burdens on certain small business taxpayers and to minimize disputes between the Internal Revenue Service and small business taxpayers regarding the requirement to use an accrual method of accounting (accrual method) under § 446 of the Internal Revenue Code because of the requirement to account for inventories under § 471, this revenue procedure provides that the Commissioner of Internal Revenue will exercise his discretion to except a qualifying small business taxpayer (as defined in section 5.01 of this revenue procedure) from the requirements to use an accrual method of accounting under § 446 and to account for inventories under § 471. This revenue procedure also provides the procedures by which a qualifying small business taxpayer may obtain automatic consent to change to the cash receipts and disbursements method of accounting (cash method) and/or to a method of accounting for inventoriable items as materials and supplies that are not incidental under § 1.162–3 of the Income Tax Regulations."

As regards the confusion everyone seems to be experiencing with respect to the plumbing company in Rev. Proc. 2002-28 please see my posts to these two previous discussions:Discussion:Percentage_completion_and_cash_basis and Discussion:Large_Commercial_Contractor as to why the IRS believes a plumbing contractor falls under 471. Particularly pay attention to the Construction Industy Audit Technique Guide, which I strongly recommend all prior posters to this thread take the time to read.

More later, gotta run now.--PVCC-CCIFP 19:56, 11 June 2011 (UTC)

DaveBCPA (talk|edits) said:

12 June 2011
Great summary PVCC -

I knew of the cash basis method being permissible for service co's, but your summary and references help me to keep everything straight...

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