Automatic method change procedures have increased in complexity and level of required detail.

• Author: Harman, Heather A.

The first so-called mass accounting method automatic change procedure issued by the IRS was Rev. Proc. 97-37. It contained 24 changes, which generally were viewed as common, low-risk changes for both the IRS and taxpayers. Rev. Proc. 97-37 provided in Section 1, Purpose, that the revenue procedure "generally provides simplified, uniform procedures and terms and conditions to obtain automatic consent to make these changes." In Section 5, Terms and Conditions, the IRS did provide that "[a]n accounting method change filed under this revenue procedure must be made pursuant to the terms and conditions provided in this revenue procedure" and that a Sec. 481(a) adjustment must be taken into account. In light of the stated policy of simplified rules, combined with the provided general terms and conditions, there appeared to be little concern that changes could be held invalid upon examination.

Much has changed in the last 14-plus years. Currently, Rev. Proc. 2011-14 has over 137 automatic changes. (Rev. Proc. 2011-14 was issued by the IRS on January 10, 2011, and is effective for applications filed on or after January 10, 2011, for a year of change ending on or after April 30, 2010.) Many of the changes are not the common, low-risk changes that were included in the original mass automatic change procedure. No language referring to simplified procedures is contained in the document. Clarification of the language regarding the computation of the Sec. 481(a) adjustment, coupled with the requirement in some cases to request a second method change under Sec. 263A, has resulted in some taxpayers being ineligible to use the more recent automatic method change procedures. This creates a real concern that a change may be invalidated upon examination if not completed with the precision required by the new revenue procedure. Today, taxpayers should consider a number of issues before requesting an automatic method change.

Background

Sec. 446(e) and Regs. Sec. 1.446-1(e) (2)(i) require taxpayers to secure IRS consent before changing a method of accounting for federal income tax purposes. To that end, the IRS has published two sets of procedures for requesting such changes: Rev. Proc. 97-27, which contains the procedures for requesting advance consent to change an accounting method, and Rev. Proc. 2011-14, which describes the procedures for receiving automatic consent. Rev. Proc. 2011-14 contains an appendix that describes each method change eligible for automatic consent. All other accounting method changes require advance consent. To receive automatic consent, taxpayers must comply with the general and specific method change requirements in Rev. Proc. 2011-14. Section 5.01 of Rev. Proc. 2011-14 notes that "an accounting method change filed under this revenue procedure must be made pursuant to the terms and conditions provided in this revenue procedure." If the taxpayer does not comply with the terms, conditions, and other provisions of Rev. Proc. 2011-14, it is not eligible to receive automatic consent for the method change. Section 6.01 of Rev. Proc. 2011-14 specifically states that "consent is granted only to the extent that the taxpayer complies with all of the applicable provisions of this revenue procedure."

Regardless of whether a particular change is eligible for advance or automatic consent, the taxpayer must formally request the accounting method change by filing Form 3115, Application for Change in Accounting Method, with the IRS. Advance consent method changes must be filed during the tax year of change. Automatic method changes may be filed until the filing of the federal income tax return for the year of change. The taxpayer must also recognize an adjustment under Sec. 481(a) to capture the cumulative difference, solely as a result of the change, between the prior method and the new method of accounting to prevent duplications or omissions when computing taxable income.

Once filed, a Form 3115 may be reviewed either by the IRS National Office or by an IRS examining agent. A method change may be disallowed if the taxpayer did not fully comply with the terms or conditions of making the change. If a change is disallowed on examination, a technical advice may be issued instructing the taxpayer to amend any prior tax returns to reflect the original method of accounting. If the method change resulted in a negative adjustment (reduction to taxable income), the tax liability may be increased on the...