New opportunities to use cash method of accounting

Your Guide to State, Local, Federal, Estate + International Taxation

cash method of accounting, tax reformIt’s time to start thinking about the most exciting time of year – tax time! As part of the modifications made by the Tax Cuts and Jobs Act of 2017 that generated so much news and discussion at the end of 2017, you may now be allowed to use the cash method of accounting for income tax purposes for taxable years beginning after December 31, 2017 under certain circumstances.

The cash method of accounting allows you to recognize income when cash is received and deduct expenses when the cash is paid. The cash method of accounting is generally easier to apply and provides the taxpayer greater flexibility in the timing of income recognition. Under prior law, a C Corporation, a Partnership that had a C Corporation as a partner, or a tax-exempt trust or corporation with unrelated business income generally was prohibited from using the cash method to the extent their average annual gross receipts exceeded $5 million for all prior years (including the prior taxable years of any predecessor of the entity). Certain exceptions apply for farming businesses and qualified personal service corporations that should be discussed with your tax advisor.

The TCJA expands the pool of taxpayers that may now use the cash method of accounting. Under this provision, the cash method of accounting may be used by taxpayers, other than tax shelters, that satisfy the gross receipts test, regardless of whether the purchase, production, or sale of merchandise is an income producing factor. The new gross receipts test allows taxpayers with annual gross receipts that do not exceed $25 million for the three-prior taxable-year period to use the cash method. The $25 million amount is indexed for inflation for taxable years beginning in 2018. The provision also allows certain taxpayers an exemption from the requirement to keep inventories. Specifically, taxpayers that meet the $25 million gross receipts test are not required to account for inventories, but instead, may use a method of accounting for inventories that either – treats inventories as non-incidental material and supplies, or conforms to the taxpayer’s financial accounting treatment of inventories.

The increase in the gross receipt threshold for cash basis tax reporting under the TCJA is a welcomed change for many taxpayers. It is important that you understand this new provision and consult with your tax advisors before taking steps to implement this change.

Ryan D. Gorman, CPA