Rev. Proc. 79-47

Section 1. Purpose

The purpose of this Revenue Procedure is to set forth the effect on earnings and profits from an adjustment under section 481 of the Internal Revenue Code that results from a change in method of accounting under section 446 of the Code.

Sec. 2. Background

Section 1.312-6(a) of the Income Tax Regulations provides that in computing earnings and profits, due consideration must be given to the facts, and while mere bookkeeping entries increasing or decreasing surplus will not be conclusive, the amount of earnings and profits will be dependent on the method of accounting properly employed in computing taxable income.

Under section 446(e) of the Code, a taxpayer that wishes to change its method of accounting must obtain the Commissioner's consent before computing taxable income under the new method.

Section 481(a) of the Code provides that in computing a taxpayer's taxable income for any taxable year, if such computation is under a method of accounting different from the method under which the taxpayer's taxable income for the preceding taxable year was computed, then there shall be taken into account those adjustments that are determined to be necessary solely by reason of the change in order to prevent amounts from being duplicated or omitted.

Section 1.312-6 of the regulations does not specify the adjustment to be made to earnings and profits upon a change in method of accounting where the change in accounting method results in either a positive or negative adjustment under section 481(a) of the Code.

Section 1.446-1(e)(3)(ii) of the regulations provides that the Commissioner may prescribe administrative procedures and conditions as deemed necessary to obtain the Commissioner's consent to a change in accounting method to an acceptable treatment consistent with applicable regulations.

Sec. 3. Application

When a taxpayer obtains permission from the Commissioner to change its method of accounting, the change may create or result in a distortion of income. Thus, the taxpayer is generally required to spread the adjustment computed under section 481(a) of the Code over a number of years specified by the Commissioner to even out and prevent a distortion of taxable income. However, the adjustment computed under section 481(a) may also create a distortion of earnings and profits available for distribution in the year of change.

Accordingly, to prevent this distortion, when computing its earnings and profits (current and accumulated) available for the payment of dividends, the taxpayer shall follow its new method for reporting taxable income and shall take the section 481(a) adjustment into account (whether positive or negative) over the same period as it does for purposes of computing taxable income.