The IRS just released regulations related to two code section changes that were enacted under the TCJA. The purpose was to accelerate (or at least not continue to allow deferral on) the recognition of income for tax purposes.
- For an accrual basis taxpayer, the all-events test for revenue recognition is met no later than when it is reported on an applicable financial statement (AFS).
- For taxpayers who receive advanced payments, the change basically codified prior IRS revenue procedures and provided more specific guidance.
The regulations provided guidance on exactly what an AFS is and what the rules are if a taxpayer does not have an AFS. This could change from year to year, depending upon the taxpayer’s situation. Regulations also require the consistent application of treatment for transactions that were following specific rules under different code sections (e.g., nonrecognition provisions).
For contracts with multiple performance obligations, the allocation of the transaction price is to equal the amount allocated to each performance obligation under the contract, and as reported in the taxpayer’s AFS. The all-events test is to be applied on a cumulative approach reflecting amounts previously included rather than on an annualized approach.
While this change allowed for a deferral of advanced payments from becoming taxable in the year of the payment (provided an election is made), it limited its application and basically codified Rev. Proc. 2004-34 and others. Certain payments are not considered advanced payments and, therefore, not subject to these rules, such as payments for an interest in real estate.
This provision especially impacts taxpayers who deal with credit card payments, airline reward miles and potential rebates that are given to customers. This could also impact companies that use crowdfunding to generate revenue. The regulations include 25 examples of the types of transactions that are impacted.
Revenue Recognition Rules - FASB ASC 606
Taxpayers who are facing the new required revenue recognition rules for their US GAAP financial statements should incorporate a review of the possible impact of these new IRS regulations.
The steps in revenue recognition that need to be documented and tested are:
- Identify customer contracts
- Identify performance obligations in the contract
- Determine the price of the transaction
- Allocate the transaction price to each performance obligation within the contract
- Recognize revenue (and costs) as the performance obligations are satisfied
At MOORE Doeren Mayhew, we are addressing these issues with our clients and are prepared to help you with this analysis. Contact us for further assistance.