IRS concedes accounting method issue in Eighth Circuit.

• Author: Ziegelbauer, John R.

In an unprecedented move, the IRS announced in Notice 95-57 that it will allow cash method banks located in the Eighth Circuit to change back to the cash method of accounting for interest income on short-term loans.

The Service maintains that Sec. 1281 applies to these loans, and thus generally requires banks to accrue interest on them. But in 1992, the Tax Court ruled against the IRS on this issue, and in 1993, the Eighth Circuit affirmed the Tax Court's decision. The Service did not acquiesce in this decision, and intends to litigate the issue in other circuits. But because of the Eighth Circuit precedent, the IRS will grant accounting method change requests and refund claims filed by banks in the Eighth Circuit (Arkansas, Iowa, Missouri, Minnesota, Nebraska, North Dakota and South Dakota). At the same time, the Service says it will deny such applications and claims for refund filed by banks outside the Eighth Circuit.

Notice 95-57 provides guidance relating to change of accounting method requests and claims for refund filed as a result of the decision in Security Bank Minnesota, 994 F2d 432 (8th Cir. 1993), aff'g 98 TC 33 (1992).

Security Bank Minnesota involved Sec. 1281, which requires certain holders of short-term obligations to include interest income on the short-term obligation as it accrues, regardless of the overall accounting method used by the holder of the instrument. Since this provision was added in 1986, its application to banks using the overall cash method of accounting has been disputed. (Note. Total annual receipts of a bank must be less than $5 million to use the cash method.)

The Eighth Circuit held in Security Bank Minnesota that Sec. 1281 did not require a cash method bank to include in gross income stated interest on short-term loans made in th course of business as the stated interest accrued. The IRS disagrees with the Eighth Circuit's interpretation of Sec. 1281 and plans on pursuing the issue in other circuits. In the interim period, the Service has decided that cash method banks in the Eighth Circuit will be granted permission to change to the cash method for stated interest on short-term loans made in the ordinary course of business.

According to Notice 95-57, cash method banks in the Eighth Circuit will be considered to have obtained IRS consent to make that change if the accounting method change is made in accordance with the notice after Nov. 6, 1995; the Service will not seek to deny the use of the cash...