1. 11-1 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

2. 11-2 ACCOUNTING PERIODS AND METHODS (1 of 2)  Accounting periods  Overall accounting methods  Inventories  Special accounting methods  Imputed interest Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

3. 11-3 ACCOUNTING PERIODS AND METHODS (2 of 2)  Change in accounting methods  Tax planning considerations  Compliance & procedural considerations Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

4. 11-4 Accounting Periods  Fiscal year is any 12-month period other than calendar year  Partnerships, S corps, and PSCs  Generally must have same tax year as majority owners (> 50% ownership)  Required payments and fiscal years  Changes in the accounting period  Returns for periods of < 12 months Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

5. 11-5 Required Payments and Fiscal Years  C corporations, other than PSCs, can choose any fiscal year  Partnerships, S corps, and PSCs can choose a fiscal year if deferral is 3 months or less (§444 election)  Required payments must be made by April 15 to offset advantage of deferral from §444 election Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6. 11-6 Changes in the Accounting Period (1 of 2)  Generally need IRS approval to change accounting period  Must establish substantial business purpose to change accounting period Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

7. 11-7 Changes in the Accounting Period (2 of 2)  IRS approval not necessary  Conformity of newly married spouses  Change to 52/53 week year ending in same calendar month as prior tax year  Certain corporations which have not changed accounting periods within 10 years Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

8. 11-8 Returns for Periods of Less than 12 Months (1 of 2)  Taxpayer’s first or final return  No annualization of income required  Change from one accounting period to another  Annualization required Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

9. 11-9 Returns for Periods of Less than 12 Months (2 of 2)  Annualization procedure 1. Compute modified taxable income (MDTI)  Must use itemized deductions  No personal and dependency exemptions 2. MDTI x [12 ÷ (short period # of mo)] 3. Compute tax on Step 2 4. Step 3 x [(short period # of mo) ÷ 12] Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

10. 11-10 Overall Accounting Methods  Overall accounting method for one trade or business not needed to be used in a second trade or business  Cash receipts and disbursements method  Accrual method  Hybrid method Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

11. 11-11 Cash Receipts and Disbursements Method (1 of 2)  Report income for the tax year in which payments are received  Generally deduct expenses in year paid  Prepaid expense capitalized and amortized if benefits extend beyond tax year  Must capitalize fixed assets and recover through depreciation or amortization Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

12. 11-12 Cash Receipts and Disbursements Method (2 of 2)  Most individuals and many service businesses use the cash method  Cannot use cash method in a business where inventory is material income producing factor  Small business exception – see hybrid method Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

13. 11-13 Accrual Method (1 of 2)  Report income under all-events test and economic performance test  All-events test  Taxpayer’s right to receive income & amount determined w/ reasonable accuracy  Economic performance test  Property or services actually rendered by other party Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

14. 11-14 Accrual Method (2 of 2)  Deduction is met when liability established and amount of expense can be determined with reasonable accuracy Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

15. 11-15 Hybrid Method  Use accrual method for sales and purchases, but may use cash method for other income and expenses  Small business exception  Businesses with inventory whose annual gross receipts for 3 prior years ≤ $1M may use cash method for sales and accrual method for cost of goods sold Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

16. 11-16 Inventories (1 of 2)  Uniform capitalization rules (UNICAP)  Required for taxpayers whose average gross receipts for 3 prior years >$10M  Must capitalize some period costs Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

17. 11-17 Inventories (2 of 2)  If using LIFO for tax  Must also use LIFO for financial accounting  May use lower of cost or market with any inventory method  Cycle inventory valuation  Congress specifically permits method  Inventory counted following a schedule Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

18. 11-18 Special Accounting Methods  Long-term contracts  Installment sales method  Deferred payment sales Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

19. 11-19 Long-Term Contracts In General  For items that are not completed in same tax year in which they begin  For manufacture of unique item not normally carried in finished goods inventory  Services not eligible for long-term contract methods Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

20. 11-20 Long-Term Contracts Completed Contract Method  Income and expenses reported in year contract completed  Only available for  Construction contracts < 2 years OR  Home construction contracts  Qualifying taxpayers  Small companies w/ avg gross receipts for prior 3 years ≤ $10M in contracts Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

21. 11-21 Long-Term Contracts Percentage of Completion Method  Income and expenses reported in each year of contract based on estimated percentage of completed work  Modified percentage of completion  Income deferred until 10% of estimated cost accumulated  Lookback interest  May apply if actual expenses paid are much different than calculated Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

22. 11-22 Installment Sales Method (1 of 3)  Any disposition of property where at least one payment received after close of tax year of disposition  Elective provision  Not applicable for sale of  Inventory  Marketable securities Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

23. 11-23 Installment Sales Method (2 of 3)  Computation under §453 1. Compute gross profit from sale 2. Determine contract price 3. Compute gross profit percentage Gross Profit ÷ Contract Price 4. Compute gain to be reported Proceeds X Gross Profit Percentage  Depreciation recapture recognized in year of sale Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

24. 11-24 Installment Sales Method (3 of 3)  Disposition of installment obligations Selling price – Adjusted basis of installment note Gain recognized Face amount x [100% - gross profit percentage] Adjusted basis in installment note Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

25. 11-25 Deferred Payment Sales  Installment method cannot be used when property sold at a loss  Obligations with indeterminate market value  E.g., mineral interest sold for 10% of value of future production  Value no lower than value of property sold less value of other property received Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

26. 11-26 Imputed Interest  Imputed interest computation  Generally must be at least 100% of applicable federal rate  Accrual of interest  Generally reported as it accrues  Several major exceptions  Special rules for gift, shareholder, and other tax avoidance loans Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

27. 11-27 Change in Accounting Methods (1 of 2)  Accounting period chosen by using for first year in which it is applicable  IRS approval required to change methods  May change to LIFO method without IRS approval  Amount of change  Due to timing of income and deduction recognition due to changes between cash and accrual methods Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

28. 11-28 Change in Accounting Methods (2 of 2)  Reporting the amount of the change  The amount  Change voluntary or involuntary  Any specific statutory mandates  Must obtain IRS consent Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

29. 11-29 Tax Planning Considerations  Accounting periods  Consider year-end and marginal tax rate in initial year  Accounting methods  Installment sales  Consider marginal tax rate and amount of gain to decide whether or not to elect out of installment method Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

30. 11-30 Compliance & Procedural Considerations  Installment Sales reported on Form 6252  Procedures for changing to LIFO  Advanced IRS permission required except for first year inventory carried  Form 970 in 1 st year using LIFO Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

31. Comments or questions about PowerPoint Slides? Contact Dr. Richard Newmark at University of Northern Colorado’s Kenneth W. Monfort College of Business richard.newmark@PhDuh.com 11-31 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall