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Business Planning

Tax Elections and Methods

Adopting or Changing Tax Elections and Methods to reduce defer or eliminate taxes.

  1. An accounting method can be your overall method, such as the accrual method, or can be the treatment of a specific item, such as vacation pay, or the way inventory or prepaid expenses are account for.
  2. Depreciation, prepaid expenses, capitalization of certain costs, and the recognition of specific income items are all accounting methods. Changing an accounting method could accelerate deductions or postpone income recognition, thereby deferring taxes and leaving you with more cash on hand.
  3. Some changes can be considered automatic, such as cost segregation of your fixed assets to accelerate your depreciation deductions or restarting your MACRS deduction when doing an exchange of tangible assets.
  4. Some changes that do not qualify for automatic consent must be made by the end of the year in which you want the change to become effective.
  5. Taxpayers must file Form 3115 (Application for Change in Accounting Method) to obtain consent for any non-automatic change during the tax year for which the change is requested and pay any associated user fee. In many cases where a taxpayer files a timely Form 3115, the IRS will not require the taxpayer to change its method of accounting for any taxable year prior to the year of change, thereby giving the taxpayer "audit protection" on its prior method.
  6. If the taxpayer does not want to request a change in accounting method, an alternative way to change an accounting method maybe to change the form of business. This may be because of the expense of the user fee or the uncertainty of drawing attention to a prior method. The following changes in business entity generally allow for the adoption of new accounting methods: forming a new corporation under Section 351 or Section 338 transaction and forming a new partnership under Section 721 or Section 708(b)(1)(B).
  7. Of course where the client is currently using a method that is disallowed or incorrect, because of changes in their business, such as exceeding the 10 million in gross receipts for farmers, it is better to initiate a voluntary change in method than have the IRS initiate the change because the transition period is better for voluntary changes.
  8. 9100 Relief: When a taxpayer fails to make an election within the time constraints, such as a Sub Chapter S corporation election, the first instinct is to panic, however, the IRS realizes that it is human to err and mercy is divine. 9100 relief is a provision that permits late elections.
    1. Two types of relief that are offered by Regs. Secs. 301.9100-1 through -3: automatic relief and non-automatic relief.
    2. Automatic relief.
      1. Taxpayers may take corrective action which includes filing the election according to the particular election's procedures. If the taxpayer must file the election along with a tax return, corrective action includes filing the original or amended tax return. Additionally, corrective action includes ensuring that all other related filings are consistent with the election, including filings from other years.
      2. The deadline for taking corrective action under Treasury Regulations 301.9100-2 is either six months or 12 months, depending on the election the taxpayer missed.
      3. The difference between the 12-month and six-month extensions is whether the taxpayer had to timely file the return. Taxpayers can take advantage of the automatic six-month extension only if they timely filed the returns for the year in question. There is no such requirement for the 12-month extension.
      4. Taxpayers taking advantage of automatic relief should send any return, statement of election, or other form that they must file to the same address to which the taxpayer would have sent it if it were timely filed. All documents filed as part of corrective action should state that they are "filed pursuant to ยง301.9100-2" across the top of the document. The automatic extension does not require a letter ruling or user fees.
    3. Non-automatic relief applies only to elections whose due dates are set by regulation, not by statute, and is granted on a case-by-case basis.
      1. Non-automatic relief under Regs. Sec. 301.9100-3 will be granted only when it can be shown that the taxpayer acted reasonably and in good faith and that granting relief will not prejudice the interests of the government.
      2. The IRS deems the taxpayer to have acted reasonably and in good faith if the taxpayer:
        1. Requests relief before the IRS discovers the taxpayer's failure to make the election;
        2. Failed to make the election because of events beyond the taxpayer's control;
        3. Failed to make the election because, after exercising reasonable diligence (taking into account the taxpayer's experience and the complexity of the return or issue), the taxpayer was unaware of the necessity for the election;
        4. Reasonably relied on the written advice of the IRS; or
        5. Reasonably relied on a qualified tax professional, including a tax professional employed by the taxpayer, and the tax professional failed to make, or advise the taxpayer to make, the election.
      3. The IRS deems the taxpayer to have acted unreasonably and not in good faith if the taxpayer:
        1. Seeks to alter a return position for which an accuracy-related penalty has been or could be imposed at the time the taxpayer requests relief (taking into account any qualified amended return filed) and the new position requires or permits a regulatory election for which relief is requested;
        2. Was informed in all material respects of the required election and related tax consequences but chose not to file the election; or
        3. Uses hindsight in requesting relief.
          1. One of the factors the IRS weighs in determining whether granting relief will cause prejudice to the government is whether it will result in a lower tax liability for the taxpayer than if the taxpayer had timely filed the election. If the election affects the tax consequences of more than one taxpayer, prejudice is determined by looking at the aggregate effect of relief on the affected taxpayers' tax liability. The IRS takes the time value of money into account when determining prejudice.
        4. Requesting Non-automatic relief under Regs. Sec. 301.9100-3 does not suspend the statute of limitation on assessment. Therefore, the IRS may condition a grant of relief on the taxpayer's consenting to extend the period for assessment for the year the taxpayer should have made the election and any other years affected by the election. Additionally, to receive Non-automatic relief, taxpayers must waive all objections to a second examination of the issues and corresponding adjustments affected by the relief.
        5. Requests for Non-automatic relief must be accompanied by affidavits. The taxpayer, or his or her representative, must submit an affidavit describing in detail the events and circumstances surrounding the failure to timely make the election and the failure's discovery. If the taxpayer's reliance on professional advice led to the failure, the affidavit needs to include detailed information about the engagement and the responsibilities of the professional and the extent of the reliance.
        6. The taxpayer must also include affidavits from his or her tax return preparer and any other individual who substantially participated in preparing the return. If the taxpayer sought advice from an accountant or tax attorney regarding the election, the request for relief must include affidavits from these individuals as well. Practitioners may be wary about submitting the affidavits, particularly if the practitioner's oversight was responsible for the failure to make the election. The prudent practitioner should consider notifying his or her malpractice carrier and seeking advice from counsel before taking corrective action under Regs. Sec. 301.9100-3.
        7. Furthermore, all of the affidavits submitted pursuant to a request for Non-automatic relief must be accompanied by a declaration that states, under penalties of perjury, that the facts in the request are true to the best of the declarant's knowledge and belief and that all the relevant facts are included. The person making the affidavit must sign and date the declaration.
        8. Requests for Non-automatic relief must follow the procedures for requesting a private letter ruling, including paying user fees. The procedures for requesting a letter ruling generally are described in the first revenue procedure of each year (e.g., Rev. Proc. 2015-1). The IRS customarily includes appendices designed to assist practitioners to request a letter ruling, including ones that describe the user fees, contain a sample letter ruling request that practitioners can use as a template, provide a checklist designed to assist practitioners with ensuring that the letter ruling request is complete, and list the addresses where the practitioner or taxpayer should send the request.
        9. It should be noted that the user fees for private letter rulings have increased dramatically. They are currently above $ 28,000.00.
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