The recent tax law changes have caused many organizations to re-evaluate their entity structure for tax purposes. Even though C Corporations are still subject to double taxation, the new 21% corporate tax rate is favorable enough that it may entice some entities to make a change. For those entities switching from an S Corp to a C Corp, the IRS has recently issued some guidance to help with that change in the form of Revenue Procedure 2018-44.
The revenue procedure specifically addresses situations in which an S Corp changing to a C Corp changes its method of accounting from the cash method to the accrual method. Depending on the situation, this can be a required change, or an optional change, and the new guidance makes it clear that the options available to the taxpayer are different in each case.
If you change your method of accounting, you must compute a section 481(a) adjustment. The adjustment is the net change, positive or negative, resulting from conversion to the new method of accounting. Depending on the situation, you then have the option of spreading the adjustment ratably over a period of time or taking the entire adjustment in the year of change.
Revenue Procedure 2018-44 clarifies that when the change in accounting method from cash to accrual for a taxpayer changing from an S Corp to a C Corp is a required change, the taxpayer is required to spread the resulting adjustment over a six-year period. However, if after the conversion from an S Corp to a C Corp taxpayer would still be eligible to use the cash method of accounting but elects to switch to the accrual method of accounting anyway, the taxpayer has the option of spreading the change over six years or using the previously established adjustment periods of one year for negative adjustments and four years for positive adjustments.
When making the decision to change entity type, there are a lot factors to consider and with its recent guidance, the IRS has made clearer the options available to taxpayers in that situation.
Need help with making this switch or other tax issues? Check out our tax consulting + compliance services.
Michael Anderson, CPA