Tax accounting methods review in 2020: Income and expense planning in uncertain economic times

 In expense recognition

For those who are are not familiar with the financial term referred to as “accounting methods”, is an accounting tool used to determine when income and expenses are recognized for tax purposes. And with New Years and the 2020 year-end approaching, now or in January is an ideal time to review your tax accounting methods and make sure they’re helping you achieve your business’s goals. To recap a bit, what is an accounting method exactly?  Whatever type of business you hold, whether it is a partnership, C-corp, S-corp or a sole proprietorship, you are required to declare a method of accounting used for your business when reporting corporate taxable income.  As a general rule, taxable income should be computed under the same method that was regularly used to keep its respective books.  On your schedule C, under the Line F section, you are asked if your method is accrual, cash or other.  

    • Cash basis accounting recognizes revenue and expenses when cash changes hands. If a customer bought a product or service from you in July, your July reports would show the transaction. It’s an easy-to-understand method, but it’s limited. 
    • The accrual method of accounting recognizes revenue and expenses when incurred. If you sent an invoice in July and your customer paid you in August, you’d recognize the income in July. Accrual accounting is more complex to understand, but it provides a better long-term view of your business. The only real downside of accrual accounting is that it makes tracking your cash more challenging.
    • Modified cash-basis accounting, also known as the hybrid method, is a mixture between cash-basis and accrual accounting.Because modified cash basis uses elements from the other two accounting methods, it uses accounts from both the cash-basis and accrual methods. Modified cash basis lets you record both short-term items (e.g., utility bills) as well as long-term items (e.g., property).With modified cash-basis accounting, you only record expenses and income when you receive or pay money.

At this time period many medium to large sized companies are beginning to review their current year tax position as well as future years’ projections. And depending on what type of industry you are such as construction, manufacturing or distribution this may be particularly useful. If you are planning for potential tax rate increases or unexpected losses (such as this Covid-19 year), it can be useful to take another look at your tax accounting methods with your CPA and double check to see if all methods and elections are helping you achieve your business’s goals.  

Many large companies use accounting methods to figure out when income and expenses are recognized for tax purposes.  This CPA firm Plante Moran published a webinar back in August that discussed this topic. And the author Kate Oliver stated “accounting methods are a valuable — but often overlooked — tool for managing tax cash flow, which is even more valuable during times of economic uncertainty.” A taxpayer’s choice in which accounting methods are used in determining taxable income can be a very powerful tax planning tool. Any strategy should consider the many competing factors, including current cash flow, longer-term tax implications, international tax implications, and the potential for future changes in tax policy.  Depreciation planning is also an attractive option, and recent tax changes have created opportunities to accelerate deductions. Payroll taxes and prepaid expenses can be deducted at different times to allow for maximum cash flow. The current economic turmoil presents a great reason to revisit tax accounting methods and consider new opportunities. The company Plante Moran article point out a few examples of how accounting methods provide businesses the opportunity to strategically recognize revenue and expenses by: 

  • Providing overall cash-tax planning – a yearly review of tax accounting methods can sometimes provide insights into opportunities such as accelerating tax deductions, reducing the current tax burden and freeing up cash for business needs. It is helpful to keep in mind that while some tax method opportunities could provide a benefit that will reverse over several years, such as something called “accelerated tax depreciation”, some methods like the cash method and inventory cost methods will result in perpetual tax deferral that would generally not reverse while the business continues operation.  
  • Planning for potential tax rate increases. Depending on what happens in a few weeks in the 2 run off Senate elections in Georgia, changes in the federal administration could result in tax rate changes going forward. The Plante Moran article suggests that “if tax rates do increase, taxpayers generating taxable income could see significant permanent tax rate savings by accelerating income into low tax rate years and deferring deductions to higher tax rate years. Taxpayers identifying unfavorable changes are generally required to spread the unfavorable adjustment over four tax years, but there may be opportunities to accelerate these adjustments to take advantage of the present historically low tax rates.   
  • Deferring income – there are specific strategies for advance payments, gift cards, and disputed receivables.
  • Inventory tax planning – some companies may be able to reduce capitalized costs, discover strategies for cash and trade discounts, and explore different costing (LIFO, FIFO, and RIM) and valuation methodologies.
  • Fixed assets – there may be opportunities to accelerate depreciation or amortization, identify assets disposed that are still being depreciated, and leverage the new tangible property regulations to reclassify capital expenditures as deductible repairs.
  • Accelerating deductions. Opportunities often exist for prepaid expenses, bad debts, self-insured medical costs, software development costs, property taxes, rebates, and compensation-related accruals.
  • Using the overall cash method of accounting. Service-oriented businesses may be able to use this method.

Optimizing tax method planning opportunities and considerations

Here is a list of accounting method opportunities, both for increasing and decreasing taxable income, depending on the tax planning strategy of the taxpayer.   Keep in mind that accounting methods should be implemented consistently, and once enacted, in general cannot be changed again for up to five years.  

If you want to change your accounting method, you would do so by filing Form 3115 with an annual filed tax return. Other types of planning methods provide for an election made with the tax return. Although, in some instances, method changes may require IRS review and approval, which must be filed by tax year-end.  

So before you move forward with changing from cash basis to accrual basis or vice versa, you must get the official OK from the IRS. According to an article in the Patriot Software site, Failure to request a change in your accounting method can result in penalties imposed by the IRS. To avoid penalties, make sure you reach out to the IRS to find out whether or not you must file Form 3115.

That is why it’s usually a good idea to review your company’s accounting methods before the year closes to make sure that all necessary requirements for using the methods are made on time.  

Planning opportunity

   Accelerate deductions (decrease income)     Defer deductions (increase income) 
  • Take full advantage of bonus depreciation and immediate expensing under Section 179.
  • Review asset class lives and perform cost segregation studies.
  • Elect partial disposition deductions when making improvements to property.
  • Review previous depreciation methods and elections for opportunities to accelerate deductions.
  • Elect out of bonus depreciation.
  • Elect ADS to slow down depreciation.
Materials & supplies
  • Elect to expense de minimis amounts of materials and supplies.
  • Elect out of the de minimis safe harbor.
Compensation accruals (bonus, vacation, payroll tax)
  • Accrued bonuses and similar plans: Ensure accruals are “fixed,” providing a tax deduction by making changes to bonus plans or approving bonus pools by year-end, and pay bonuses within 2.5 months of year-end.
  • Accrued payroll tax: Elect the recurring item exception for payroll taxes paid within 8.5 months after year-end.
  • Accrued bonuses: Pay bonuses more than 2.5 months after year-end or don’t fix the bonus plan amounts by year-end.
  • Accrued payroll tax: For payroll taxes deferred as part of the CARES Act, don’t pay those for 2021/2022 when they’re required to be repaid. Consider electing off the recurring item exception.
Other accruals (property taxes, self-insured health, rebates)
  • Property tax: Use the recurring item exception and deduct payments made within 8.5 months after year-end. Adopt the ratable accrual method.
  • Self-insured health accrual: Many self-insured health accruals are deductible in the year in which the services are provided.
  • Rebates: Use the recurring item exception for rebates earned by year-end, and deduct payments made within 8.5 months after year-end.
  • Property tax: Deduct taxes only when paid.
  • Rebates: Deduct rebates only when paid.
  • Review UNICAP methods: Final regulations effective for 2019 tax years can be favorable to many taxpayers.
  • Review inventory reserves for subnormal goods that may be deductible.
  • Review inventory related discounts, such as volume rebates.
  • LIFO taxpayers should consider electing off of LIFO now while tax rates are low.
  • Review UNICAP methods, specifically sub methods that may allow for semi-permanent capitalization of service costs.
Prepaid expenses
  • Elect the 12-month rule to accelerate deductions for certain prepaid expenses, such as prepaid insurance. Adopt the 3.5-month rule for prepaid services.
  • Elect off of 12-month rule to defer prepaid expenses.
Research & development (R&D) expenses
  • Elect to capitalize and amortize R&D costs over five years or more.
Deferred revenue
  • Use the one-year deferral method for advance payments.
  • Adopt the full-inclusion method for advanced payments.
Pension contributions
  • Qualified pension contributions can be deducted if paid by the tax return due date and contributed to the prior tax year.
  • Calendar-year taxpayers should consider making pension contributions after the tax return due date or for the benefit of the subsequent plan year to the extent possible. This contribution would then be deducted in the tax year in which the contribution is made, thus deferring the deduction.
Overall income & expense recognition
  • Review the options to change to the overall cash method or overall accrual method to defer deductions and generate income currently.
Bad debt
  • Review opportunities to use the specific charge-off method.
  • Certain service providers may adopt the nonaccrual experience method to exclude noncollectible receivables from income.
Small business taxpayer inventory methods
  • Certain small business taxpayers can elect off of Section 263A, which requires capitalization of tax costs to inventory.
  • Consider adopting other favorable inventory methods such as the materials and supplies approach for accounting for inventory or the book conformity method for inventory, which may allow for accelerated deductions compared to historical tax methods.
  • Adopt traditional tax inventory accounting and Section 263A to capitalize additional tax costs to inventory.
Percentage-of-completion: Small business taxpayer
  • Small business taxpayers in construction can elect to apply cash or completed contract method instead of percentage-of-completion for long term contracts.
  • Elect to apply Section 460 to long-term contracts.
Percentage-of-completion: Larger taxpayers
  • Contractors should evaluate whether their percentage-of-completion methods for taxpayers takes advantage of favorable tax deferrals including pay-if-paid and 10% method.
  • Taxpayers can also evaluate different sub methods to accelerate taxable income.



If your business is looking for ways to increase its cash flow or finds itself turning profitable and on the verge of paying income tax, looking at your tax accounting methods can highlight opportunities to accelerate deductions or defer income recognition. The result: reduced current-year tax expense and more cash for your business. Companies that can benefit from a review of their accounting methods include those that have grown or become taxable in recent years as well as those that have acquired other businesses. If you have a questions feel free to reach out to Huckabee CPA for a free consultation.  Huckabee CPA can possibly help your company identify and implement accounting method opportunities to meet your business needs. Other areas that could be examined include: 

  • Evaluating the accounting methods and their indirect impacts on other tax strategies
  • Assistance with guiding the complex procedural rules in implementing a tax accounting method change
  • Filing accounting method changes with the IRS and representing your business in the approval process


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