Rev. Rul. 70-507

The purpose of this Revenue Ruling is to update and restate, under the current statute and regulations, the positions set forth in G.C.M. 19692, C.B. 1938-1, 148, and I.T. 2960, C.B. XV-1, 98 (1936).

The question involved is the deductibility, for Federal income tax purposes, of the excise taxes imposed under sections 3111 and 3301 of the Federal Insurance Contributions Act and the Federal Unemployment Tax Act, respectively, by a taxpayer engaged in a trade or business.

Section 461 of the Internal Revenue Code of 1954 provides, in general, that the amount of any deduction or credit allowed shall be taken for the taxable year which is the proper taxable year under the method of accounting used in computing taxable income.

Section 1.461-1(a)(1) of the Income Tax Regulations states, in part, that under the cash receipts and disbursements method of accounting amounts representing allowable deductions shall, as a general rule, be taken into account for the taxable year in which paid. Section 1.461-1(a)(2) of the regulations states, in part, that under the accrual method of accounting, an expense is deductible for the taxable year in which all the events have occurred which determine the fact of liability and the amount thereof can be determined with reasonable accuracy.

The tax imposed on every employer by section 3111 of the Federal Insurance Contributions Act with respect to having individuals in his employ is measured by a percentage of the "wages" (exclusive of tips received by employees after 1965) paid for "employment." Liability for the tax attaches at the time that the wages are actually or constructively paid unless they are deemed to be subsequently paid. Section 31.3121(a)-2 of the Employment Tax Regulations. There is no liability until such payment is made. Not until then can the tax be accrued, whether the payments are made weekly, twice a month, monthly, or on some other basis. Therefore, where a taxpayer employs the accrual method of accounting, the excise tax imposed by section 3111 of the Federal Insurance Contributions Act is deductible for the taxable year in which the wages are actually or constructively paid. Where a taxpayer employs the cash receipts and disbursements method of accounting the tax imposed by section 3111 of the Code is deductible only for the taxable year in which paid.

Section 3301 of the Federal Unemployment Tax Act imposes on every "employer" an excise tax, with respect to individuals in its employ, equal to a certain percentage of the total "wages" paid by him with respect to "employment." Under section 3302 of that Act the taxpayer may credit against the tax imposed by section 3301 of that Act for any taxable year the amount of contributions with respect to employment during the taxable year paid by him for the taxable year with respect to the unemployment compensation law of a State, provided the total credits allowed to a taxpayer under section 3302 of that Act shall not exceed 90 percent of the tax against which such credits are allowable.

For the reasons stated below, it is held that as to a taxpayer employing the accrual method of accounting, at least 10 percent of the tax liability under section 3301 of the Federal Unemployment Tax Act is fixed and may be accrued if and when the employer qualifies as an employer in accordance with the provisions of section 3306(a) of that Act, which reads as follows:

(a) EMPLOYER--For the purposes of this chapter [chapter 23 relating to the Federal Unemployment Tax Act], the term "employer" does not include any person unless on each of some 20 days during the taxable year or during the preceding taxable year, each day being in a different calendar week, the total number of individuals who were employed by him in employment for some portion of the day (whether or not at the same moment of time) was 4 or more.

For example, if a corporation employing the accrual method of accounting having a fiscal year ended June 30, 1970, has qualified as an employer under section 3306(a) of the Act and its liability for the tax under section 3301 of the Act is ascertained to be 200x dollars (which is, in part, contingent) and the contributions to the State are 90 percent or more of the tax imposed under section 3301 of the Act it may accrue 10 percent (20x dollars) of that amount as fixed liability deductible for Federal income tax purposes in its return for the year ended June 30, 1970, since to the extent of 10 percent, the liability is definitely determined and will not be affected by subsequent events.

As to the remaining 90 percent, that portion of the 200x dollar liability under section 3301 of the Act, or 180x dollars, may not be paid at all. All of the factors essential to the calculation under section 3301 of the Act, considered alone, may be definitely determinable from time to time prior to December 31 of any calendar year, but the fact remains that because of the credit provisions of section 3302 of the Act 90 percent of the tax so calculated may never become a liability which must be paid to the Federal Government. Assuming that as to a particular employment there is a State unemployment compensation law, it may be properly said that some portion up to 90 percent of the liability to the Federal Government under section 3301 of the Act is cancelled immediately upon its arising by the offsetting credit under section 3302 of the Act except for the fact that such entitlement arises only for contributions made under the laws of States certified for the taxable year as provided in section 3304 of the Act. The total remaining liability under section 3301 of the Act, thus, remains in suspense until action respecting certification, as required by section 3304 of the Act, is taken by the Secretary of Labor.

Section 3304(c) of the Act states, in part, as follows:

CERTIFICATION.--On December 31 of each taxable year the Secretary of Labor shall certify to the Secretary of each State whose law he has previously approved, except that he shall not certify any State which, after reasonable notice and opportunity for hearing to the State agency, the Secretary of Labor finds has amended its law so that it no longer contains the provisions specified in subsection (a) or has with respect to such taxable year failed to comply substantially with any such provision and such finding has become effective. * * *

Section 3304(a) of the Federal Unemployment Tax Act sets forth certain standards with which a State law (as written and administered) must comply in order to secure the approval of the Secretary of Labor and be certified on December 31 of each calendar taxable year. It cannot, therefore, be known prior to December 31 in each calendar year whether the particular State law is certified for that year and, as the calendar year is the taxable year, it cannot be known until the last day of the taxable year whether the taxpayer is entitled to the credit provisions of section 3302 of the Act. Even though it is necessary for the taxpayer to make some provisions in its accounting during the course of the calendar year against the possible incidence of an actual cash liability for this 90 percent portion of the tax computed under section 3301 of the Act, it is clearly a contingent provision.

Inasmuch as there is a distinct likelihood that 90 percent of the tax calculated under section 3301 of the Act will not be paid (i.e., that it will not survive as a liability which must be paid to the Federal Government) that much of the tax imposed by that section must be classified as a liability contingent upon a specific event, namely, whether the State law is in fact certified by the Secretary of Labor on December 31 of the taxable year. Only in the event the State law is not certified will the entire amount of the liability calculated under section 3301 of the Act constitute a definite and fixed liability to the Federal Government and any definite accrual of the amount of liability in excess of 10 percent must be postponed until December 31.

Where a taxpayer employs the cash receipts and disbursements method of accounting any such liability which arises is deductible for the taxable year during which paid.

G.C.M. 19692 and I.T. 2960 are hereby superseded, since the positions stated therein are restated under current law in this Revenue Ruling.

¹ Prepared pursuant to Rev. Proc. 67-6, C.B. 1967-1, 576.