Rev. Proc. 84-74

                              CONTENTS

The purpose of this revenue procedure is to clarify, modify, and supersede Rev. Proc. 80-51, 1980-2 C.B. 818, relating to procedures under section 1.446-1(e) of the Income Tax Regulations for obtaining the consent of the Commissioner of Internal Revenue to change a method of accounting for federal income tax purposes. A change in method of accounting can be made only under the provisions of this revenue procedure except as otherwise specifically provided by published documents.

SEC. 2 BACKGROUND

01 Section 446(e) of the Internal Revenue Code of 1954 and section 1.446-1(e) of the regulations state that, except as otherwise provided, a taxpayer must secure the consent of the Commissioner before changing a method of accounting for federal income tax purposes. The requirement to secure the Commissioner's consent before changing a method of accounting was first required in 1919 by Article 23, Regulation 45 (T.D. 2873, 1 C.B. 58 (1919)). Article 322 of Regulation 77, promulgated under the Revenue Act of 1932, stated that `... permission to change the method of accounting will not be granted unless and until the taxpayer and the Commissioner agree to the terms and conditions under which the change will be effected.` This regulatory authority was continued in somewhat expanded form in subsequent regulations. See section 39.41 of Regulations 118 promulgated under the Internal Revenue Code of 1939. Case law construing the `terms and conditions` provision of the regulations has maintained that `... the Commissioner has been regarded as possessing considerable discretion to prescribe conditions to the granting of consent...` to an accounting change. Ross v. Commissioner, 169 F.2d 483, 489 (1st Cir. 1948). Section 39.41 of Regulations 118 was codified in section 446(e) of the 1954 Code. The Senate Finance Committee expressly stated that 446(e) was added to `codify existing regulations` (S. Rep. No. 1622, 83rd. Cong., 2d Sess. 300 (1954)). The purpose of the regulations and the subsequent enactment of section 446(e) was to provide the Commissioner with the authority to monitor changes in methods of accounting, to insure that no duplication or omission of items of income or expense resulted, and to authorize the Commissioner to impose on the taxpayer the terms and conditions under which the change would be effected. Section 1.446-1(e)(3)(i) requires that in order to obtain this consent, an application must be made within 180 days after the beginning of the tax year in which the proposed change is requested to be made. Section 1.446-1(e)(3)(ii) authorizes the Commissioner to prescribe administrative procedures setting forth the limitations, terms, and conditions deemed necessary to permit a taxpayer to obtain consent to a change in its method of accounting in accordance with section 446(e).

02 Section 481(a) of the Code requires that those adjustments necessary to prevent amounts from being duplicated or omitted be taken into account when the taxpayer's taxable income is computed under a method of accounting different from the method used to compute taxable income for the preceding tax year. Section 481(c) and section 1.481-5 of the regulations provide that the adjustment required by section 481(a) may be taken into account in determining taxable income in the manner and subject to the conditions agreed to by the Commissioner and the taxpayer.

03 Methods of accounting should clearly reflect income on a continuing basis, and the Internal Revenue Service administers its discretion under sections 446(e) and 481(c) of the Code so that, in general, any distortion of income on an annual basis is minimized. The Service will consider the need for consistency in the accounting area against the taxpayer's reason for desiring to change its method of accounting when the method of accounting from which the taxpayer is changing clearly reflects income. When there is a change in method of accounting, income for the year preceding the year of change must be determined under the method of accounting that was then employed, and income for the year of change and the following years is determined under the new method of accounting. The section 481(a) adjustment, while necessary to prevent duplications or omission of income or deductions, by its nature is distortive since it does not reflect the economic income of the year. An adjustment period for the section 481(a) adjustment is provided for in subsections 5.05 and 5.06 of this revenue procedure and is intended to reduce the possibility of a change in method of accounting from itself creating a material distortion in income in the year of change and to reduce any distortion when it does exist. Also, amounts attributable to changes in methods of accounting are taken into account in determining earnings and profits in a manner consistent with the provision of this revenue procedure.

04 While the adjustment period is designed to ameliorate, at least in part, the otherwise distortive effect of the section 481(a) adjustment, the Service believes that, in order to further compliance with proper methods of accounting, situations exist when allowing an adjustment period of more than 1 year is not appropriate. In such cases, a period of only 1 year is available. (See, for example, paragraph 4.01(2) of this revenue procedure.) Similarly, the Service believes that certain situations exist when it is not appropriate to allow more than a 3-year period. (See, for example, subparagraphs 4.02(2)(c), 5.06(1)(d), subsection 5.11, and paragraph 5.12(2).) In addition, the Service believes, as a general matter, that it is appropriate that the adjustment period not be greater than the period that gave rise to the section 481(a) adjustment. (See subsection 5.06).

SEC. 3. CHANGES

01 Rev. Proc. 80-51 made several major changes and amplifications to the existing procedures for obtaining the Commissioner's consent to a change in method of accounting. Those changes and amplifications were made to encourage taxpayers to adopt proper methods of accounting and to cease using methods of accounting that are proscribed by the Code, regulations, decisions of the Supreme Court of the United States, revenue rulings, and revenue procedures. This section highlights the major changes and amplifications made by this revenue procedure.

02 Subsection 2.03 states that the Service will consider the need for consistency in the accounting area against the taxpayer's reason for desiring to change its method of accounting when the method of accounting from which the taxpayer is changing clearly reflects income.

03 (1) Subparagraph 4.01(3)(b) has been expanded to include additional instructions to taxpayers that wish to change their method of accounting when their income tax examination is before an appeals officer.

(2) Paragraph 4.01(4) has been changed to expand the application of this revenue procedure to last-in, first our inventory method (LIFO) terminations resulting from termination events other than those occurring in tax years barred by the statute of limitations. See paragraph 6.02(10) for termination events occurring in other tax years.

04 (1) Subsection 4.02, pertaining to taxpayers under examination, has been changed to increase the period for filing an application for a change in method of accounting following the receipt of a listed basic report form upon the completion of an examination from 90 days to 120 days. Another change requires that the accounting method to be changed not be an issue raised in an examination for a subsequent year (if any) prior to the filing of the Form 3115. The taxpayer is referred to section 7 of this revenue procedure for instructions in filing the application and the taxpayer is to identify the application as being filed under the provisions of 4.02(1) of this revenue procedure.

(2) A new 30-day period for filing a Form 3115 is provided to taxpayers with a Category A method of accounting that have been precluded under paragraph 4.01(2) of this revenue procedure from filing a Form 3115 for at least 18 consecutive months and the accounting method to be changed is not an issue raised by the examiner(s). The taxpayer is referred to section 7 of this revenue procedure for instructions in filing the application and the taxpayer is to identify the application as being filed under the provisions of paragraph 4.02(2) of this revenue procedure.

05 Subsection 5.03, the early application provision, has been changed to provide that if the application is not perfected within the first 120 days after the beginning of the year of change, the Service will not process the application. Also, a new paragraph 5.03(2) has been added concerning subsequent applications for change in method of accounting that are filed after an unperfected early application or after an approved application that was never put into effect by the taxpayer. The Service requires an explanation as to why the change in method of accounting was not made when considering the subsequent application for change in method of accounting.

06 In paragraph 5.04(1), relating to the facts and circumstances to be considered by the Service in processing applications for change in method of accounting, two additional items of consideration have been added. The Service will consider whether the present method of accounting clearly reflects income and whether the taxpayer's books and records will conform with the proposed method of accounting. Also, a new paragraph 5.04(2) has been added to provide instructions for taxpayers that file an incomplete Form 3115, Application for Change in Accounting Method. These taxpayers are given 45 days to complete the Form 3115, otherwise, the Service will not process it.

07 Subsection 5.06, adjustment periods, has been changed as follows:

(1) The adjustment period has been changed from 10 years to 6 years in general, and the shorter period of 5 years, imposed in certain circumstances, has been reduced to 3 years.

(2) A new subparagraph (c) has been added to provide for a one year adjustment period when the negative section 481(a) adjustment is attributable to a change in a Category A method of accounting. This adjustment period applies only to a change from a Category A method of accounting to a proper method of accounting.

(3) A new subparagraph (d) has been added to provide for a 3 year adjustment period when the change in method of accounting is from a Category A method of accounting that results in a positive section 481(a) adjustment.

(4) A new subparagraph (f) has been added to provide instructions for taxpayers who have two or more separate and distinct trades or businesses and who desire to change a method of accounting for one or more of the trades or businesses.

08 Subsection 5.07, LIFO election, has been changed to provide additional rules for the application of section 472(d) of the Code (3-year restoration period). Examples are also provided to show how the 3-year period works.

09 Subsection 5.08, reduction in inventory value, has been changed to modify and explain the 33 1/3 percent rule and to indicate the inventory covered by such rule. Also, examples have been added to explain the 33 1/3 percent rule, as modified.

10 Subsection 5.10, discontinuance of LIFO, has been changed to provide for a terminating event statement and to add rules pertaining to the readoption of the LIFO inventory method.

11 Subsection 5.11, full absorption method of invetory costing, the 5-year adjustment period has been changed to a 3-year adjustment period.

12 Paragraph 5.12(2), taxpayers under examination-Category B method, the 5-year adjustment period has been changed to 3 years.

13 Subsection 5.13, examples, has been renumbered 5.14 and a new subsection 5.13 has been added to provide rules for certain Category A method of accounting cases.

14 Subsection 5.15, limiting terms and conditions, is new and contains the terms and conditions that will limit the use of net operating losses, net operating loss carryovers, carrybacks and other credits that pertain to the year in which the change in method of accounting occurs.

15 In section 6, definitions, the following changes are made:

(1) Subsection 6.02, Category A method of accounting, has been changed in several respects, one of which permits taxpayers under certain conditions to request to treat their method of accounting as a Category A method.

(2) Subsection 6.04, filed, has been expanded to include the rules of section 7503 of the Code.

(3) Subsection 6.05, affiliated group filing a consolidated return, is added to provide a definition of the term `taxpayer` in a consolidated return setting.

16 Section 7, application, contains several new subsections designed to assist taxpayers in filing for a change in method of accounting under this revenue procedure. The changes are as follows:

(1) Subsection 7.01, general rule, clarifies that the jurisdiction over applications of exempt organizations for changes in accounting methods is with the Assistant Commissioner (Employee Plans and Exempt Organizations), and includes instructions for such organizations.

(2) Subsection 7.02, signature and power of attorney, has been changed to inform taxpayers that the Service does not give out information on a case to the taxpayer's representative unless the representative has a power of attorney.

(3) Subsection 7.03, members of an affiliated group, is a new subsection; the old subsection 7.03 has been renumbered subsection 7.06. This new subsection provides procedures to be followed by members of an affiliated group when applying for a change in method of accounting under this revenue procedure.

(4) Subsection 7.04, application for change in method of accounting for two or more trades or businesses, is a new subsection; the old subsection 7.04 has been renumbered subsection 7.07. This new subsection contains procedures to be followed when the taxpayer has two or more trades or businesses and desires to change a method of accounting.

(5) Subsection 7.05, consent letter, is added to the revenue procedure to provide procedures for the new requirement that taxpayers sign a consent letter upon receiving a ruling letter from the National Office granting a change in method of accounting. In order for the consent to the change in method of accounting to be effective the taxpayer must return the signed consent agreement within 45 days from the date of receipt. If this is not done, the ruling letter will be deemed to be null and void. Procedures are also provided for taxpayers to submit their disagreement with respect to the terms and conditions set forth in the ruling letter.

(6) Subsection 7.06, procedures for filing applications for changes from Category B method of accounting when the taxpayer is under examination, includes instructions for an exempt organization filing under this revenue procedure and provides different rules depending on whether the accounting method issue has been raised by the Service.

17 Section 8, miscellaneous, has been changed as follows:

(1) Subsection 8.02, effect of this revenue procedure on other offices of the Service, has been clarified. An `appropriate representative of the Service` is defined as an appeals official with delegated settlement authority. Also, the adjustment periods in paragraphs 8.02(1) and (2) have been changed to agree with the 6-year and 3-year period specified in subsection 5.06.

SEC. 4. SCOPE

01 This revenue procedure applies to Form 3115. Application for Change in Accounting Method, filed by all taxpayers when at the time of filing of the Form 3115 the taxpayer is not subject to any of the conditions listed below:

(1) UNDER EXAMINATION FOR THE FIRST YEAR AN ERRONEOUS METHOD IS USED.

Taxpayer is under examination by the Service for the year or years in which the erroneous method was initiated by the taxpayer or in which the taxpayer changed to a method of accounting without the consent of the Commissioner;

(2) CATEGORY A METHOD OF ACCOUNTING-CONTACTED FOR EXAMINATION.

The method to be changed is a Category A method of accounting (as defined in subsection 6.02 of this revenue procedure), and the taxpayer has been contacted in any manner by a representative of the Service for the purpose of scheduling an examination of its federal income tax return(s) and such examination has not been completed (but see subsection 4.02). If this paragraph 4.01(2) applies, the change in method of accounting shall be made by the district director;

(3) OTHER

At the time of filing Form 3115, the taxpayer's return is either:

(a) UNDER EXAMINATION.

Under examination by the district director, except as provided in subsections 4.02, 5.12 and 7.06 of this revenue procedure;

(b) BEFORE AN APPEALS OFFICE.

Under consideration by an appeals office of the Service with respect to an examination unless,

(1) The taxpayer has obtained an agreement from the appeals officer that there is no objection to the taxpayer requesting a change in method of accounting pursuant to this revenue procedure; or

(2) The taxpayer is complying with a designated revenue ruling or revenue procedure that has been published in the Internal Revenue Bulletin and the issue (method of accounting) has not been raised by the Service. The year of change will be determined under subparagraph 5.12(1)(b); or

(c) BEFORE A FEDERAL COURT.

Before any federal court with respect to an income tax issue, unless the taxpayer has obtained an agreement from counsel for the Government that there is no objection to the taxpayer requesting a change in method of accounting pursuant to the provisions of this revenue procedure.

(4) LIFO TERMINATION BY SERVICE.

An examiner(s) has raised the issue of whether the taxpayer's use of the LIFO inventory method during the year(s) currently under examination should be terminated as a result of a termination event (as described in Rev. Proc. 79-23, 1979-1 C.B. 564, or any other applicable revenue ruling or revenue procedure) when such event occurred during a tax year barred by the statute of limitations. See paragraph 6.02(10) of this revenue procedure for termination events occurring in other tax years.

(5) CRIMINAL INVESTIGATION.

In which there is pending a criminal investigation or proceeding concerning, (a) directly or indirectly, any issue relating to the taxpayer's federal tax liability for any year, or (b) the possibility of false or fraudulent statements made by the taxpayer with respect to any issue relating to its federal tax liability for any year.

02 TAXPAYERS UNDER EXAMINATION-CATEGORY A METHOD CHANGE.

(1) 120-DAY RULE-STARTING AFTER RECEIPT OF A BASIC REPORT FROM THE SERVICE.

Paragraphs 4.01(2) and (3)(a) will not apply during a 120-day period following the date of issuance by the Service of either a letter stating that there is no change in the tax liability or a basic report form (a report of Individual Income Tax Examination Changes, a report of Income Tax Examination Changes, a report of Income Tax Audit Changes, or an Unagreed and Excepted Agreed report) giving notice of results of an examination by the Service of the taxpayer's liability for certain tax years. The examination of cases placed or held in suspense under section 4559 of Part IV (Audit) of the Internal Revenue Manual should be completed for all issues not in suspense and a partial agreement requested. The issuance of a basic report form in those cases begins the 120-day period specified above. During this 120-day period taxpayers requesting a change in method of accounting from Category A method of accounting must comply with the requirements of this revenue procedure and file a current Form 3115 in accordance with the instructions set forth in section 7 of this revenue procedure. However, paragraph 4.01(2) will be applied and the 120-day rule set forth above will not apply with respect to a Category A method of accounting (1) when that Category A method of accounting is included as an item of adjustment in a basic report form as a reuslt of the examination by the Service (2) when the Category A method of accounting issue is placed in suspense by the Service, or (3) when the taxpayer has, within the 120-day period, received written notification, prior to the filing of the Form 3115, from the examiner(s) that the Category A method to be changed is an issue under consideration for the tax year under examination. In order to assist in the processing of the Form 3115 filed under this subsection and to insure proper handling, reference to this special procedure should be made a part of the Form 3115 by putting at the top of the Form 3115 `FILED UNDER PARAGRAPH 4.02(1) OF REV. PROC. 84-74.` Whenever a taxpayer's request for change of method of accounting involves a Category A method of accounting change, the National Office, at the closing of the case, will advise the district director for the district in which the federal income tax return is filed, of the fact and of the action taken by the Service on such request.

(2) 30-DAY PROVISION.

(a) GENERAL.

Paragraphs 4.01(2) and (3)(a) of this revenue procedure will not apply during the first 30 days of any tax year if the following apply:

(1) The taxpayer has been precluded under paragraph 4.01(2) from filing a Form 3115 for at least 18 consecutive months prior to such 30-day period; and

(2) The taxpayer has not received written notification from the examiner(s) that the Category A method to be changed is an issue under consideration prior to the 30 day period set forth above.

(b) YEAR OF CHANGE.

The year of change shall be the current tax year.

(c) ADJUSTMENT PERIOD.

The adjustment period otherwise determined under subsection 5.06 shall not exceed 3 tax years beginning with the year of change.

(d) APPLICATION UNDER THIS PROVISION.

(1) The original of the Form 3115 filed under the provisions of the 30-day provision must be filed within the first 30 days of the tax year. The Form 3115 is filed at the time it is mailed. See ;subsection 6.04 for definition of `filed` for purposes of this revenue procedure. A Form 3115 filed after the expiration of the 30-day period will not be processed. For the purpose of this paragraph 4.02(2) no extensions will be granted.

(2) The Form 3115 is to be filed with the National Office in accordance with the instructions set forth in Section 7 of this revenue procedure. In order to assist in the processing of the Form 3115 filed under this paragraph and to insure proper handling, reference to this special procedure should be made a part of the Form 3115 by putting at the top of page 1 of the Form 3115 `FILED UNDER PARAGRAPH 4.02(2) OF REV. PROC. 84-74, 30-DAY WINDOW`.

(3) A copy of the Form 3115 filed with the National Office is to be sent to the district director for the district in which the returns are being examined at the same time the original Form 3115 is being sent to the National Office.

(e) EFFECTIVE DATE.

See subsection 11.02 of this revenue procedure for the effective date of this provision.

03 TAXPAYERS UNDER EXAMINATION-CATEGORY B METHOD OF ACCOUNTING ISSUE PLACED IN SUSPENSE.

Upon examination by the Service, should a Category B method of accounting (as defined in subsection 6.03 of this revenue procedure) be an issue that is placed in suspense by the Service and the taxpayer desires to change such Category B method of accounting to a proper method of accounting, the taxpayer may file an application for change in method of accounting under the provisions of this revenue procedure. See subsection 7.06.

04 NO RETROACTIVE CHANGES IN METHOD OF ACCOUNTING.

Except as provided in subsection 5.12, this revenue procedure does not permit a taxpayer to request a retroactive change in method of accounting. For this purpose, a retroactive change is a change for a tax year for which a federal income tax return is due or has been filed.

05 SERVICE RESERVES THE RIGHT TO DECLINE TO PROCESS FORM 3115.

The Service reserves the right to decline to process an application for change in accounting method filed under this revenue procedure in situations in which it would not be in the best interest of sound tax administration to permit the requested change. In this regard the Service will consider whether the change in method of accounting would clearly and directly frustrate compliance efforts of the Service in administering the income tax laws.

SEC. 5. PROCEDURES

01 SUBMISSION OF APPLICATION FOR CHANGE IN METHOD OF ACCOUNTING.

In general, an application for a change in method of accounting should be filed on a current Form 3115 within 180 days after the beginning of the tax year for which the change in method of accounting is requested to be made.

02 LATE APPLICATIONS FOR CHANGE IN METHOD OF ACCOUNTING.

(1) SECTION 1.9100-1 OF THE REGULATIONS.

One of the purposes of the 180-day rule is to provide the Service adequate time to process the numerous applications prior to the original due date of taxpayers' returns. A current Form 3115 that is not filed within the 180-day period may, under section 1.9100-1 of the regulations, nevertheless be considered as timely filed upon the showing of good cause in accordance with the requirements of Rev. Proc. 79-63, 1979-2 C.B. 578. However, for purposes of this revenue procedure, applications received beyond 9 months after the beginning of the year of change will be considered to jeopardize the interests of the Government (See section 1.9100-1(a)(3) and section 2 of Rev. Proc. 79-63) except in very unusual and compelling circumstances.

(2) CHOICE IF SECTION 1.9100-1 RELIEF IS NOT GRANTED.

If a current Form 3115 has been filed after the 180-day period and the Service does not grant relief under section 1.910-1 of the regulations, the taxpayer may choose to have the application apply to the subsequent tax year under the procedures prescribed in subsection 5.03 below. This choice must be made within 30 days after the issuance by the Service of a denial of relief under section 1.9100-1, by filing a current Form 3115 for the subsequent tax year with the National Office addressed in accordance with subsection 7.01 of this revenue procedure. If the choice is timely made and the requirements of subsection 5.03 are met, the application will be considered a qualified application timely filed for purposes of this revenue procedure at the time the Form 3115 was filed for which relief under section 1.9100-1 was requested.

03 EARLY APPLICATIONS FOR CHANGE IN METHOD OF ACCOUNTING.

(1) 120 DAY RULE.

A qualified application for a change in method of accounting filed after the 180 day period provided for by section 1.446-1(e)(3)(i) of the regulations and before the beginning of the year of change will be considered timely filed for purposes of this revenue procedure. To qualify, (a) the current Form 3115 must be complete in all respects except for the amount of the adjustment under section 481(a) of the Code for the year of change, and (b) the amount of the section 481(a) adjustment must be furnished to the Service within the first 90 days after the beginning of the year of change. If the application is not perfected within that first 90 days the Service will so notify the taxpayer. If the application if not then perfected within the first 120 days after the beginning of the year of change the Service will close the case and will not otherwise process that Form 3115. The filing of a qualified application for change in method of accounting in this manner will be considered to be an application for a change in method of accounting at the time of the original filing of the Form 3115 for purposes of paragraph 4.01(2) of this revenue procedure. The processing order of a Form 3115 filed under the provisions of this subsection will be determined by the date all information (including the amount of the section 481(a) adjustment) has been furnished. In order to assist in the processing of Forms 3115 filed under this early filing procedure, and to insure proper handling, reference to this special procedure should be made a part of the Form 3115 by putting at the top of the Form 3115: `FILED UNDER PARAGRAPH 5.03(1) OF REV. PROC. 84-74.`

(2) CONSENT LETTER AND SUBSEQUENT APPLICATONS FOR CHANGE TO THE SAME METHOD.

(a) Taxpayers filing early applications under this provision are required to comply with the requirements of subsection 7.05 if a consent letter is issued by the Service.

(b) If the application is not perfected or if the consent agreement is not signed and returned to the Service and the taxpayer files another early application for a subsequent tax year requesting consent to change to the same method of accounting requested in the earlier application, a copy of the first (earlier application) Form 3115 filed together with any correspondence received from the Service is to be attached to any current Form 3115 filed for a subsequent tax year. An explanation must also be furnished as to why the application was not perfected or why the change was not made. The Service will consider such explanation in determining whether subsequent `early applications for change in method of accounting will be honored. The early application rule is not intended to permit a taxpayer to file protective applications to await the results of an examination. See also paragraph 4.02(1) of this revenue procedure.

04 PROCESSING APPLICATIONS (FORM 3115).

(1) FACTS AND CIRCUMSTANCES TO BE CONSIDERED.

In processing applications for change in method of accounting, the Service will consider all facts and circumstances. Such consideration will include:

(a) Whether the method of accounting requested is consistent with the Code, regulations, revenue rulings, revenue procedures and decisions of the Supreme Court of the United States;

(b) Whether the present method of accounting clearly reflects income;

(c) Whether the use of the new method will clearly reflect income;

(d) The taxpayer's reason(s) for the change;

(e) The tax effect of the adjustment under section 481(a) of the Code;

(f) Whether the taxpayer's books and records will conform with the proposed method of accounting; and

(g) The need for consistency in the accounting area. See subsection 2.03.

(2) INCOMPLETE FORM 3115-45 DAY RULE.

If the Service receives an application that is not properly completed in accordance with the instructions on the current Form 3115, it will notify the taxpayer. Such notification will specify those items that need to be corrected and, when appropriate, transmit a current blank Form 3115 for the taxpayer's use. For example: the general instructions contained on page 6 of the Form 3115 require a taxpayer to set forth all relevant facts regarding its present and proposed methods (as set forth in the application), including an explanation of why the taxpayer believes the application should be approved. In its notification, the Service will allow the taxpayer 45 days from the date of the notification letter to furnish the necessary information. If the required information is not submitted to the Service within the 45-day period that Form 3115 will not be processed. An additional 15 days, however, may be granted to the taxpayer to furnish such information in very unusual and compelling circumstances. The request for the 15-day extension must be made in writing and submitted within the 45-day period. If, upon receiving the completed Form 3115, the Service finds during its processing that supplemental information is needed, the taxpayer will be required to supply any supplemental information requested by the Service within 45 days. The taxpayer will be subject to the procedures set forth above.

05 APPROVAL OF AN APPLICATION FOR CHANGE IN METHOD OF ACCOUNTING.

Approval of an application for change in method of accounting will normally be conditioned on the taxpayer proposing and agreeing as one of the conditions to the change to take the adjustment required under section 481(a) of the Code (`adjustment`) into account in computing taxable income and earnings, and profits (See Rev. Proc. 79-47, 1979-2 C.B. 528) over a period considered appropriate by the Commissioner, and proposing and agreeing to those other terms and conditions deemed appropriate by the Commissioner to clearly reflect, or prevent a distortion of, income. The approved change shall be considered to be a change in method of accounting initiated by the taxpayer.

06 SECTION 481(a) ADJUSTMENT PERIOD. CH/(1) GENERAL.

The appropriate period for taking into account an adjustment, whether positive or negative, referred to in subsection 5.05 (`adjustment period`) is generally determined as follows:

(a) ATTRIBUTABLE TO THE IMMEDIATELY PRECEDING TAX YEAR RULE.

When the entire net amount of an adjustment is attributable to the tax year immediately preceding the year of change (first preceding year), the total net adjustment is to be taken into account in computing taxable income for the year of change. The amount attributable to the tax year immediately preceding the year of change is the difference in the amount of the adjustment determined under section 481(a) of the Code for the year of change and the amount of the adjustment that would have been required under section 481(a) if the same change in method of accounting had been made in the preceding year.

(b) 67-PERCENT RULE.

When subparagraph (a) of this paragraph 5.06(1) does not apply and 67 percent or more of the net amount of an adjustment is attributable to the 1-tax year period, 2-tax year period, or 3-tax year period immediately preceding the year of change, the highest percent attributable to the 1, 2, or 3-tax year period is to be taken into account ratably over a 3-tax year period beginning with the year of change. Any remaining balance is to be taken into account ratably over an additional period equal to the remainder of the number of tax years the taxpayer has used the method of accounting that is being changed. However, the total adjustment period shall not exceed 6 tax years. This subparagraph, 5.06(1)(b), only applies if the taxpayer has used the method being changed for more than 3 tax years. If the method of accounting being changed has been used for no more than 4 tax years, 75 percent shall be substituted for 67 percent. An amount attributable to the 1, 2, or 3-tax year period is the difference in the amount of the adjustment determined under section 481(a) of the Code for the year of change and the amount that would have been required under section 481(a) if the same change had been made at the beginning of the preceding 1, 2, or 3-tax year period.

(c) NEGATIVE ADJUSTMENT FROM CATEGORY A CHANGE.

When there is a change in method of accounting from a Category A method of accounting (as defined in subsection 6.02) that results in a negative net adjustment under section 481(a) of the Code, the entire negative net adjustment will be taken into account in computing taxable income in the year of change.

(d) POSITIVE ADJUSTMENT FROM CATEGORY A CHANGE.

When there is a change in method of accounting from a category A method of accounting (as defined in subsection 6.02) that results in a positive net adjustment under section 481(a) of the Code, the adjustment period otherwise determined under subparagraph 5.06(1)(e) shall not exceed 3 tax years. If the section 481(a) adjustment is attributable to the tax year immediately preceding the year of change (first preceding year), the provisions of subparagraph 5.06(1)(a) apply. See subsection 11.03 of this revenue procedure for transitional rules relating to this provision and its effective date.

(e) ALL OTHER SITUATIONS.

In all other situations in which subparagraphs (a), (b), (c), and (d) of this paragraph 5.06(1) do not apply, the total net adjustment is to be taken into account ratably over the number of tax years (not to exceed 6) the taxpayer has used the method of accounting that is being changed.

(f) TWO OR MORE TRADES OR BUSINESS-FORM 3115.

In a situation in which a taxpayer operates two or more separate and distinct trades or businesses and has kept separate books and records as required by section 1.446-1(d)(2) of the regulations, or in any fashion employs a different method of accounting for such businesses, a current Form 3115 is required for each separate business should the taxpayer desire to change any of its methods of accounting. Full disclosure of the facts covering the taxpayer's use of such different methods of accounting is also required in this situation. Generally, the resulting section 481(a) adjustment will be determined on the basis of the separate books and records and the adjustment period will be determined under subparagraphs (a), (b), (c), (d) or (e) of this paragraph 5.06(1). See subsection 7.04 of this revenue procedure for procedures to follow when filing Form 3115.

(2) PERJURY STATEMENT.

In applying subsection 5.03 or subparagraphs 5.06(1)(a) or (b), if a taxpayer's books and records do not contain sufficient information to compute the section 481(a) adjustment attributable to the 1, 2, or 3-tax year period immediately preceding the year of change, the taxpayer may reasonably estimate these amounts and attach the computations upon which the estimates are based and attach and sign the following statement to the Form 3115:

Under penalties of perjury, I hereby certify that:

(a) the books and records of (name of the taxpayer) do not contain sufficient information to permit a computation of the section 481(a) adjustment attributable to the 1-tax year period, 2-tax year period, or 3-tax year period immediately preceding the year of change as required by subparagraph 5.06(1)(b) of Rev. Proc. 84-74.

(b) Based on the information that is contained in such records, to the best of my knowledge and belief, the entire amount of the section 481(a) adjustment for the year of change (indicate either `is` or `is not,` as the case may be) attributable to the tax year immediately preceding the year of change, and 67 percent (or `75 percent,` in applicable cases) or more of the section 481(a) adjustment for the year of change (indicate `is` or `is not,` as the case may be) attributable to the 1-tax year period, 2-tax year period, or 3-tax year period immediately preceding the year of change.

(3) COOPERATIVES.

A cooperative within the meaning of section 1381(a) of the Code shall generally take the total net amount of an adjustment into account in computing taxable income for the year of change. See Rev. Rul. 79-45, 1979-1 C.B. 284. The Service in its discretion may, however, require the adjustment to be taken into account ratably over a period of tax years when it determines that this action is appropriate.

07 LIFO ELECTION AND SECTION 472(d) OF THE CODE.

If a taxpayer elects the LIFO method of inventory valuation for a tax year beginning after December 31, 1981, under section 472(d) of the Code, the taxpayer must restore to income any write-downs below cost (as a result of the proper use of the prior method of inventory valuation) ratably over a 3-year period beginning with the tax year the LIFO inventory valuation is elected. If a taxpayer elects the LIFO method of inventory valuation during the adjustment period (as determined under subsection 5.06 above) attributable to a prior change in an inventory valuation method, the unamoritized balance of the section 481(a) adjustment attributable to the prior change shall be included in income in the tax year of the LIFO election in an amount equal to the amount that would have been included in income by that time under section 472(d) as if the LIFO method of inventory valuation had been adopted at the time prior method of inventory evaluation was adopted.

The provisions of this subsection are illustrated in the following examples:

EXAMPLE 1

A calendar year taxpayer received permission to change from the lower of cost or market method (a method used by the taxpayer for 6 years) to the cost method of inventory valuation for its 1982 tax year. The ending inventory under the old method was 40x dollars on December 31, 1981. The beginning inventory under the new method of valuation on January 1, 1982 was 100x dollars. When the taxpayer filed its federal income tax return for 1982 it elected the LIFO method of inventory valuation by attaching Form 970, Application to Use LIFO Inventory Method, to the return.

Under the provision of this subsection 5.07 the amount of the section 481(a) adjustment that would have been included in income ratably under section 472(d) of the Code is 60x dollars. Thus, the inclusion in income of the 60x dollars is accomplished as follows:

    Tax Years                    Amount

EXAMPLE 2

If, under the same facts set forth in Example 1, the taxpayer elected the LIFO method of inventory in 1983 the provisions of this subsection would be applied as follows:

     (1) For its 1982 tax year the taxpayer would include in income

If, under the facts of Example 1, the taxpayer had instead elected to use the LIFO method of inventory in 1984, the provisions of this subsection would be applied as follows:

     (1) For 1982 and 1983 the taxpayer included in income 1/6 th of

If, under the facts of Example 1, the taxpayer elected the LIFO method of inventory in 1985, the provisions of this subsection would be applied as follows:

      (1) For its 1982, 1983 and 1984 tax years the taxpayer would

(1) 33- 1/3 -PERCENT RULE-REDUCTION IN INVENTORY VALUE.

If the change in method of accounting involves a change in method of inventory valuation and, on the last day of any tax year of the adjustment period, the value of the taxpayer's inventory to which the section 481(a) adjustment relates is reduced by more than 33- 1/3 percent of the inventory value at the beginning of the first tax year of the adjustment period and is so reduced by at least such percentage at the end of the following tax year (temporary fluctuations are not controlling; permanent reductions are controlling), the remaining balance of the section 481(a) adjustment must be taken into account in determining taxable income in the year succeeding the year of the reduction. This would apply whether the section 481(a) adjustment was positive or negative. If the value of the inventory does not remain reduced for one year, the reduction is not considered permanent and the provisions of this paragraph do not apply. In applying this paragraph, the 33- 1/3 percent-rule applies only to the specific category of inventory to which the section 481(a) adjustment relates.

The 33- 1/3 -percent inventory reduction rule is illustrated as follows:

A taxpayer received permission from the Commissioner to change its method of inventory valuation for the tax year beginning January 1, 1979. The amounts involved are as follows:

      Inventory under the

(2) STRIKES, INVOLUNTARY CONVERSION OR INVOLUNTARY INTERRUPTIONS

Paragraph 5.08(1) shall not apply if the taxpayer has shown to the satisfaction of the Commissioner that the reduction is attributable to a strike, involuntary conversion, or involuntary interruption of the availability of goods. This paragraph 5.08(2) shall apply only if the taxpayer has obtained the consent of the Commissioner. The consent must be requested no later than 90 days after the end of the tax year in which paragraph 5.08(1) would otherwise apply.

09 CEASING TO ENGAGE IN THE TRADE OR BUSINESS-SECTION 481(a) ADJUSTMENT PICKUP.

(1) WITH RESPECT TO A CORPORATION: If the taxpayer ceases to engage in the trade or business to which the adjustment (subsections 5.05 and 5.06) relates at any time prior to the expiration of the adjustment period referred to in subsection 5.06, the taxpayer shall take into account in that year the balance of the adjustment not previously taken into account in computing taxable income. See Rev. Rul. 80-39, 1980-1 C.B. 112, which holds that if a division of a corporation for which a change in method of accounting had been granted ceases to operate the trade or business for which the change in method was granted, the remaining section 481(a) adjustment applicable to the business conducted by that division of the corporation must be taken into income in the year the corporation ceases to engage in that trade or business. For purposes of this condition, the taxpayer is not considered to have ceased operation of the trade or business if the cessation is the result of a transaction to which section 381 of the Code applies, but in that case the acquiring corporation shall continue to be subject to this revenue procedure as though it were the acquired corporation.

(2) WITH RESPECT TO A PARTNERSHIP: In the event a partnership terminates or ceases to engage in the trade or business (within the meaning of section 708 of the Code) to which the adjustment (subsections 5.05 and 5.06) relates at any time prior to the expiration of the adjustment period referred to in subsection 5.06, the balance of the adjustment not previously taken into account in computing ordinary income shall be taken into account in that year. A partnership ceasing to engage in the trade or business includes the incorporation of the trade or business in a transaction to which section 351 applies (see Rev. Rul. 77-264, 1977-2 C.B. 187).

(3) WITH RESPECT TO A SOLE PROPRIETOR:

If the individual (sole proprietor) ceases to engage in the trade or business to which the adjustment (subsections 5.05 and 5.06) relates at any time prior to the expiration of the adjustment period referred to in subsection 5.06, the balance of the adjustment not previously taken into account in computing taxable income shall be taken into account in that year. A sole proprietor ceasing to engage in the trade or business includes the incorporation of the trade or business in a transaction to which section 351 of the Code applies (see Rev. Rul. 771-264). A sole proprietorship does not cease to engage in that trade or business when the individual taxpayer sells partial interest in the proprietorship and continues to be actively engaged in the management of the business that is subsequently operated as a partnership. The section 481(a) adjustment remaining at the time the partnership is formed is taken into account by the sole proprietor as though there had been no change in ownership (See Rev. Rul. 66-206, 1966-2 C.B. 206).

10 DISCONTINUANCE OF LIFO AND READOPTION OF LIFO.

(1) DISCONTINUANCE OF LIFO

(a) GENERAL. A taxpayer's request to discontinue the use of the LIFO inventory method is a change in method of accounting within the meaning of sections 446 and 481 of the Code and is subject to the provision of this revenue procedure. Consent to discontinue the use of the LIFO inventory method and change to an acceptable method of inventory accounting that the Service determines will clearly reflect income normally will be granted subject to the requirements of section 1.472-6 of the regulations and the provisions of this revenue procedure, provided the taxpayer agrees:

(1) to an adjustment period determined in accordance with the rules set forth in subsection 5.06 of this revenue procedure;

(2) not to elect the LIFO inventory method of accounting for a period of at least 10 tax years beginning with the year of change, unless consent is granted by the Commissioner to change the method of accounting at an earlier time based on a showing of extraordinary circumstances; and

(3) to comply with any other terms and conditions that may be prescribed by the Commissioner (see subsection 5.05)

(b) TERMINATION EVENT STATEMENT.

The taxpayer shall attach to the Form 3115 filed to discontinue the use of the LIFO inventory method the following separate statement signed by the taxpayer:

Under penalties of perjury, I hereby certify that to the best of my knowledge and belief, with respect to (NAME OF TAXPAYER)'s use of the LIFO inventory method of accounting, there (indicate either `has` or `has not`) been a termination event (as described in Rev. Proc. 79-23, 1979-1 C.B. 564, or any other applicable revenue ruling or revenue procedure) that occurred during a year not barred by the statute of limitations as of the date of the filing of the Form 3115.

If the taxpayer does not properly sign and attach the above separate statement to the Form 3115, the Service will process the request to discontinue the use of the LIFO inventory method as a change from Category A method of accounting. See paragraph 6.02(10) of this revenue procedure.

(2) READOPTION OF LIFO:

Taxpayers desiring to change to the LIFO inventory method of accounting from their present method, having previously received permission from the Commissioner to change from the use of the LIFO inventory method to its present inventory method, must file an application on a current Form 3115 requesting such change under the provisions of section 1.446-1(e)(3) of the regulations. The Commissioner, however, will not consent to a readoption of the LIFO inventory method, absent a showing of extraordinary circumstances when the taxpayer is readopting the LIFO inventory method unless it has been 10 tax years since the taxpayer changed from the LIFO inventory method. See subsection 11.05 for the effective date of this paragraph.

11 FULL ABSORPTION METHOD OF INVENTORY COSTING.

With respect to applications filed by manufacturers and producers for consent to change to the full absorption method of inventory costing prescribed by section 1.471-11(a) of the regulations, the adjustment period otherwise determined in subsection 5.06 shall not exceed 3 tax years.

12 TAXPAYER UNDER EXAMINATION-CATEGORY B METHOD.

A taxpayer that has been contacted by a representative of the Service for the purpose of scheduling an examination of its federal income tax return may obtain consent to change its method of accounting under this revenue procedure provided the method to be changed is a Category B method as defined in subsection 6.03 of this revenue procedure. Taxpayers filing an application under this provision are to follow the instructions set forth in subsection 7.06 of this revenue procedure. Consent to make the requested change will normally be granted provided the taxpayer proposes and agrees:

(1) YEAR OF CHANGE.

That the year of change will generally be:

(a) ACCOUNTING METHOD ISSUE RAISED BY THE SERVICE.

If the method being changed involves an issue raised by the Service during the examination, the most recent tax year that is being examined by the Service during the examination of the taxpayer's returns, but not later than the most recent tax year for which a federal income tax year for which a federal income tax return has been filed as of the date the examination began; or

(b) ACCOUNTING METHOD ISSUE NOT RAISED BY THE SERVICE.

In other cases, the applicable tax year that would apply at the time the application is filed if the taxpayer had not been under examination.

(2) DESIGNATED RULING OR PROCEDURE-2 YEAR RULE.

If the method being changed involves an issue raised by the Service and the method has been designated by a revenue ruling or revenue procedure that was published in the Internal Revenue Bulletin more than 2 years prior to the date the Form 3115 is filed, as a change in method of accounting with respect to this paragraph 5.12(2), the adjustment period otherwise determined under subsection 5.06 shall not exceed 3 tax years;

(3) OTHER TERMS AND CONDITIONS TO BE SET.

To comply with any other terms and conditions that may be prescribed by the Commissioner (see, for example, subsections 5.05 and 5.15).

13 THOR POWER TYPE CASES.

(1) Paragraph 6.02(4) of this revenue procedure identifies the inventory write own method described in Thor Power Tool Co. v. Commissioner, 439 U.S. 522 (1979), 1979-1 C.B. 167, as a Category A method of accounting.

(2) Subparagraph 5.06(1)(d) provides that the adjustment period otherwise determined under subsection 5.06 shall not exceed 3 tax years for a change in method of accounting involving a change from a Category A method that results in a positive net section 481(a) adjustment. Subparagraph 5.06(1)(d) applies to Thor Power type cases. See subsection 11.03 for the effective date of this provision.

14 EXAMPLES OF ADJUSTMENT PERIODS:

The rules described in paragraph 5.06(1) with respect to the section 481(a) adjustment are illustrated by the following examples:

EXAMPLE A:

Z timely files an application to change its method of accounting for a specific item of expense to a method that the Service determines will clearly reflect income beginning with the tax year ending December 31, 1983 (year of change). Z has used the method of accounting that is being changed for 12 tax years. The adjustment required under section 481(a) of the Code for the year of change is $60,000. If Z had made the requested changed in method of accounting for the tax years ended December 31, 1980, 1981, or 1982, the amount of the adjustment would have been $42,000, $5,400, and $48,500, respectively. The percent of the section 481(a) net adjustment attributable to the 1, 2, or 3-tax year period preceding the year of change is determined as follows:

                         1-TAX YEAR PERIOD

EXAMPLE B:

Y timely files an application to change its method of a accounting for valuing inventory to a method that is in accord with the provisions of section 1.471-4 of the regulations, beginning with its tax year ending November 30, 1983. The information furnished shows that Y used its present method of valuing inventory for 9 tax years prior to the year of change and that the net adjustment required under section 481(a) of the Code for the year of change is $300,000. The information furnished further shows that had the change been made for the tax year ending November 30, 1982, the adjustment required under section 481(a) would have been zero or a negative amount. Thus, the entire amount of the adjustment is attributable to the tax year immediately preceding the proposed year of change. Under these circumstances and based on the provisions of subparagraph 5.06(1)(a) of this revenue procedure, Y will take the entire $300,000 net adjustment into account in computing its taxable income for the tax year ending November 30, 1983. If the information furnished had shown that had the change been made for the tax year ending November 30, 1982, the adjustment required under section 481(a) would have been $300,000, and if the change had been made for the tax year ending November 30, 1981, the adjustment required under section 481(a) would have been zero or a negative amount, the $300,000 adjustment would have been taken into account ratably over the 3-tax years beginning with the tax year ending November 30, 1983.

EXAMPLE C:

W timely files an application to change its method of accounting for reporting income from the overall cash method to an overall accrual method, beginning with its tax year ending September 30, 1983. The information furnished shows that W used the overall cash method for 4 tax years prior to the year of change and the net positive adjustment required under section 481(a) of the Code for the year of change is $55,000. The information furnished further shows that the highest percent of the net positive adjustment attributable to the 1, 2, or 3-tax year period preceding the proposed year of the change was 63 percent. Under these circumstances and based on the provisions of subparagraph 5.06(1)(e) of this revenue procedure, W will take the $55,000 adjustment into account ratably over 4-tax years beginning with the tax year ending September 30, 1983.

EXAMPLE D:

The taxpayer, a wholesaler, has for the past 10 years omitted freight-in from the computation of inventories (a Category A method) and now desires to correct this practice. The year of change is the tax year beginning January 1, 1983. The value of the taxpayer's inventory as of December 31, 1982 (the end of the year preceding the year of change), was $365,000, which did not include freight-in. The amount of freight-in omitted from that inventory was $45,000. The value of the inventory as of January 1, 1983 (the beginning of the year of change), computed in accordance with the new method of accounting to be used by the taxpayer, is $410,000. The change in method of accounting is treated as a change initiated by a taxpayer, and thus the net section 481(a) adjustment is $45,000 ($410,000 - $365,000).

The hypothetical section 481(a) adjustments that would have been required if made in the tax year immediately preceding the year of change is $30,000.

Under the provisions of subparagraph 5.06 1(d) of this revenue procedure the $45,000 will be taken into income over the 3-tax year period beginning with the tax year ending December 31, 1983. Thus, the taxable income for the year ended December 31, 1983, based on the foregoing and the amounts indicated below, should be computed as follows:

 Sales.................................................... $800,000

15 LIMITING TERMS AND CONDITIONS WITH RESPECT TO NET OPERATING LOSSES AND CREDITS.

The Commissioner imposes terms and conditions when consenting to changes in methods of accounting to make certain that taxable income is or will be clearly reflected; to prevent lifetime distortions of income; and to prevent taxpayers from receiving otherwise unavailable tax benefits that could arise from a change in method of accounting. Not all of the terms and conditions to be imposed by the Commissioner necessary for a change in method of accounting are st forth in this revenue procedure. The facts and circumstances of each application for a change in a method of accounting generally dictate the terms and conditions to be applied.

The limiting terms and conditions set forth below pertain to net operating losses, net operating loss deductions, and tax credits. The limiting terms and conditions are imposed on category B method of accounting changes to reduce otherwise unavailable and immediate tax benefits, tax motivated changes, or tax planning concerning the timing of a change in method of accounting. The limiting terms and conditions set forth below are generally employed. However, they may, at the Commissioner's discretion, be modified.

(1) NET OPERATING LOSSES

(a) NEGATIVE SECTION 481(A) ADJUSTMENT.

Any portion of any net operating loss arising in the year of change or in any subsequent year in the adjustment period that is attributable to the negative section 481(a) adjustment may not be carried to those 3 tax years preceding the year of change to which section 172 of the Code otherwise would require it first to be carried.

(b) POSITIVE SECTION 481(A) ADJUSTMENT.

No part of any (consolidated or separate) net operating loss carryover available at the beginning of the year of change may be used as an offset against the portion of the positive section 481(a) adjustment taken into account in the year of change. That is, the net operating loss carryover available at the beginning of the year of change may be offset only against income (other than the section 481(a) adjustment) generated in the year of change.This condition will not apply to years subsequent to the year of change. Any portion of the positive section 481(a) adjustment attributable to the year of change may be offset against any net operating loss otherwise incurred in the year of change as well as any future net operating loss carryback under section 172(b) of the Code.

(2) CREDIT CARRYOVERS-POSITIVE SECTION 481(A) ADJUSTMENT.

No part of any (consolidated or separate) credit carryover available at the beginning of the year of change in method of accounting may be used to reduce the federal income tax liability resulting from or attributable to the inclusion in income of a portion of the positive section 481(a) adjustment in the year of change. This restriction does not apply, however, to a credit arising in the year of change or to any future credit carrybacks to the year of change.

(3) VOLUNTARY CHANGES-CATEGORY A METHOD OF ACCOUNTING.

No terms and conditions with respect to net operating losses or credits will be imposed on taxpayers requesting to change from a Category A method of accounting.

SEC. 6 DEFINITIONS

01 YEAR OF CHANGE

The tax year for which a change is effective is the year of change. The year of change is the first tax year for taking the adjustment referred to in subsection 5.06 of this revenue procedure into account and for complying with any other terms and conditions set forth in the Commissioner's consent letter (see section 1.446-1(e)(3)(ii) of the regulations). See also subsection 5.12 of this revenue procedure.

02 CATEGORY A METHOD OF ACCOUNTING.

A CAtegory A method of accounting is a method of accounting that is specifically not permitted to be used by the taxpayer by the Code, regulations, or by a decision of the Supreme Court of the United States. The Service may, or at the taxpayer's request will, treat the taxpayer's method of accounting as a Category A method of accounting if the taxpayer's method of accounting is clearly erroneous. For this purpose, a method of accounting is not a clearly erroneous method if it is established to be acceptable under any of the following standards:

(1) the method of accounting is acceptable under any currently recognized pronouncement, opinion, or rule published on behalf of the accounting profession;

(2) the method of accounting is acceptable under any current accounting convention or practice recognized in the taxpayer's industry or related industry or type of business;

(3) the method of accounting is acceptable under the current general application of the `materiality` doctrine of generally accepted accounting practice; or

(4) the method of accounting has been identified as an acceptable method of accounting in a document published by the Service. This expanded definition of a Category A method of accounting is available for use by either the SErvice, at its discretion, or by the taxpayer. The taxpayer may rebut a Service determination that the taxpayer's method of accounting is clearly erroneous by establishing to the satisfaction of the Service that the method of accounting is acceptable under one or more of the above standards. Except to the extent provided in the fist sentence of this subsection 6.02 the Service will not determine that either an overall accrual or overall cash receipts and disbursements methods of accounting are clearly erroneous solely for the purpose of its Category A determinations. Examples of methods within category A are:

(1) SECTION 1.471-2(F) OF THE REGULATIONS.

Methods of inventory valuation listed in sections 1.471-2(f)(1) through (7) of the regulations.

(2) SECTION 1.471-2(C0 OF THE REGULATIONS.

A write-down of goods in inventory that does not comply with section 1.471-2(c) of the regulations. For example, goods are written down without being sold or offered for sale.

(3) SECTION 1.471-4(B) OF THE REGULATIONS.

A write-down of any goods in inventory that does not comply with section 1.471-4(b) of the regulations. For example, see Rev. Rul. 77-364, 1977-2 C.B. 183, in which a taxpayer determined the market value of gods in inventory by dividing the inventory into classes based upon sales activities and then reducing the value of each class by a percentage of cost assigned thereto.

(4) THOR POWER TYPE CASES.

The write-down of what is regarded as `excess` inventory by a taxpayer to a net realizable value although such inventory has not been scrapped, sold, or offered for sale at the reduced price. (Thor Power Tool Co. v. Commissioner and section 1.471-4(b) of the regulations)

(5) USE OF THE CASH METHOD WHEN INVENTORIES ARE REQUIRED.

In the absence of a specific statutory or regulatory exception, the use of the cash receipts and disbursements method of accounting for the sale of merchandise when such merchandise is an income-producing factor and therefore inventories are required. (Section 1.446-1(c)92) and Example 1 of section 1.446-1(e)92)(iii) of the regulations.)

(6) SECTION 1.451-3(B) OF THE REGULATIONS.

The use of a long-term contract method of accounting for income from contracts that clearly do not involve building, installation, construction, or manufacturing. (Section 1.451-3(b) of the regulations.)

(7) SECTION 447 OF THE CODE-FARMERS.

The use of a method of accounting other than that prescribed by section 447 of the Code by a farming corporation subject to that section.

(9) SECTION 1.163-4(A) OF THE REGULATIONS.

The use, in tax years beginning on or after September 19, 1979, of a method of accounting under section 1.163-4(a) of the regulations, which provides for the deduction of interest as original issue discount, with respect to obligations with a term of 1-year or less. (Section 1.1232-3(b)(1)(iii).)

(10) SECTION 472 OF THE CODE.

The use of the LIFO method of accounting for inventories when there has been a termination event (as described in Rev. proc. 79-23 or any other applicable revenue ruling or revenue procedure) that occurred during a year not barred by the statute of limitations as of the date of the filing of the Form 3115.

03 CATEGORY B METHOD OF ACCOUNTING.

Category B methods are all methods other than those determined to be a Category A method of accounting under subsection 6.02 above.

04 FILED.

For purposes of this revenue procedure, a Form 3115 is filed at the time it is mailed (the date of the United States postmark under the rules of section 7502 of the Code) or delivered to, and received by, the Service. The rules of section 7503 are followed when the last day for the filing of a Form 3115, based on the end of the taxpayer's tax year, falls on a Saturday, Sunday, or legal holiday. The filing of a Form 3115 shall be considered timely if it is filed on the next succeeding day which is not a Saturday, Sunday, or a legal holiday.

05 AFFILIATED GROUP FILING A CONSOLIDATED RETURN.

For the purpose of section 4 of this revenue procedure, the term `taxpayer` means all members of an affiliated group (as defined in section 1504(a) of the Code included in a consolidated federal income tax returns for the year under examination. Thus, if a consolidated return is under examination by the Service, each member of the affiliated group will be considered under examination for purposes of section 4 and subsection 5.12 of this revenue procedure. See subsection 7.03 of this revenue procedure for the requirements of filing a Form 3115 for a member of an affiliated group.

SECTION 7. APPLICATION

01 GENERAL RULE.

A taxpayer, other than an exempt organization, wishing to invoke the provisions of this revenue procedure should complete and file a current Form 3115 with the Commissioner of Internal Revenue, Attention: CC:CC:C:1, 1111 Constitution Avenue, N.W., Washington, D.C. 20224, and request the application of Rev. proc. 84-74. An exempt organization will address the Form 3115 to the Assistant Commissioner (Employee Plans and Exempt Organizations), 1111 Constitution Avenue, N.W. Washington, D.C. 20224, and request the application of Rev. Proc. 84-74. The taxpayer must provide all the information required on such application (current Form 3115) and state that it proposes to take the adjustment into account over the appropriate period required by subsection 5.06 above. See paragraph 5.04(2) for instructions regarding incomplete applications.

02 SIGNATURE AND POWER OF ATTORNEY.

The signature of the person requesting the change in method of accounting must appear in the space provided for it on the Form 3115. For example, an officer must sign on behalf of a corporation, a general partner on behalf of a partnership, a trustee on behalf of a trustee, or a sole proprietor. See the signature requirements set forth in the General Instructions attached to a current Form 3115 for those who are to sign. If an agent is authorized to represent the taxpayer before the Service, to receive the original or a copy of correspondence concerning the request, or to perform any other act(s) regarding the application on behalf of the taxpayer, a power of attorney reflecting such authorization(s) must be attached to the application. Taxpayer's representatives without a power of attorney to represent the taxpayer as indicated in this subsection will not be given any information about the application.

03 AFFILIATED GROUP.

If the taxpayer is a member of an affiliated group that has elected to file a consolidated federal income tax return, a Form 3115 submitted on behalf of the taxpayer must be signed by a duly authorized officer of the common parent. See section 1.1502-77 of the regulations. Section 1.1502-17(a) permits separate methods of accounting to be used by each member of the group subject to the provisions of section 446 of the code and the regulations thereunder. However, in considering whether to grant such change, the Service will consider the effect on the income of the affiliated group. The member requesting the change in method of accounting must submit such information as to permit the Service to evaluate the effect of the requested change on the income of the affiliated group.

04 APPLICATION FOR CHANGE IN METHOD OF ACCOUNTING FOR TWO OR MORE TRADES OR BUSINESSES.

(1) REQUIREMENTS OF SECTION 1.446-1(d)(1) AND (2) OF THE REGULATIONS.

Section 1.446-1(d)(1) and (2) of the regulations provides that when a taxpayer has two or more separate and distinct trades or businesses, a different method of accounting may be used for each trade or business provided the method of accounting used for each trade or business clearly reflects the income of the taxpayer and of that particular trade or business. In determining whether a business is separate and distinct for purposes of these provisions, separate books and records for each trade or business are required.

(2) SECTION 1-446(d)(3) OF THE REGULATIONS-CLEAR REFLECTION OF INCOME.

Section 1-466-1(d)(3) of the regulations provides that if, by reason of maintaining different methods of accounting, there is a creation or shifting of profits or losses between the trades or businesses of the taxpayer (for example, through inventory adjustments, sales, purchases, or expenses) so that income of the taxpayer is not clearly reflected, the trades or businesses of the taxpayer will not be considered to be separate and distinct. Accordingly, the Service will not process and will return the Form 3115 to the taxpayer unless the proposed change in method of accounting requested on the Form 3115 would result in correcting the above defects and in clearly reflecting the taxpayer's income.

(3) WHEN A CHANGE IN METHOD OF ACCOUNTING WILL NOT BE GRANTED.

A change in method of accounting will not normally be granted in those situations in which:

(a) INCOME NOT CLEARLY REFLECTED.

The use of separate methods of accounting for separate trades or businesses does not result in the taxpayer's income being clearly reflected; or

(b) SHIFTING OF PROFITS OR LOSSES.

There is a creation or shifting of profits or losses between in the trades or businesses. See parenthical language of section 1.446-(d)(3) of the regulations for some transactions that may cause the creation or shifting of profits or losses between trades or businesses.

(4) REQUIREMENTS FOR FILING FORM 3115.

A current Form 3115 must be filed. The taxpayer must provide all the information requested on the current Form 3115. In addition, the taxpayer must identify all other trades or businesses by name and employer identification number maintained by the taxpayer and the method of accounting used by each trade of business.

05 CONSENT AGREEMENT REQUIREMENTS.

(1) GENERAL.

Unless otherwise specifically provided, the Commissioner's permission to change a taxpayer's method for accounting for a specific year will be set forth in a ruling letter (original and one copy) from the National Office that identifies the item or items being changed, the section 481(a) adjustment, and the terms and conditions under which the change is to be effected for the year specified in the ruling letter (see section 1.466-1(e)(3) and section 1.481-5 of the regulations). If the taxpayer agrees to the terms and conditions contained in the ruling letter, the taxpayer will acknowledge such agreement as follows. The taxpayer will date and execute the agreement copy of the ruling letter in the appropriate space provided. The signed copy of the ruling letter will constitute an agreement (hereinafter referred to as the `Consent Agreement`) within the meaning of section 481(c) of the Code and as required by section 1.481-5(b). After the Consent Agreement is executed by the taxpayer it must be returned to the National Office, as required below.

(2) SIGNATURE REQUIREMENTS.

The Consent Agreement may not be signed by the taxpayer's representative but must be signed by the person or persons on whose behalf the request is made. That person must have the authority to bind the taxpayer in such matters. For example, an officer must sign on behalf of a corporation, a general partner on behalf of a partnership, a trustee on behalf of a trust, or a sole proprietor. See subsection 7.03 with respect to signature requirements of an affiliated group of corporations.

(3) MAILING ADDRESS.

The Consent Agreement shall be returned (when mailed the postmark date will control) to the National Office addressed as follows: Commissioner of Internal Revenue, P.O. Box 14084, Benjamin Franklin Station, Washington, D.C. 20224, within 45 days of its issuance. In addition a copy of the Consent Agreement must be attached to the taxpayer's income tax return for the year of change.

(4) 45 DAY REQUIREMENT.

If the taxpayer does not return the signed Consent Agreement within 45 days, the ruling letter granting the permission for the change will be null and void.

(5) METHOD OF ACCOUNTING CHANGE NOT MADE BY TAXPAYER.

If the taxpayer decides not to effect the change in accordance with the terms and conditions of the ruling letter, the taxpayer should so indicate by returning the unsigned copy of the ruling letter to the National Office addressed as follows: Commissioner of Internal Revenue, Attention (Person whose name and symbols appear at the top of the Consent Agreement), 1111 Constitution Ave. N.W., Washington, D.C. 20224, with an appropriate explanation as to why the accounting method change will not be effected. The Service will consider such explanation in determining whether future requests for changes in method of accounting will be granted. If the taxpayer disagrees with the terms and conditions of the ruling letter, the taxpayer must indicate such disagreement together with an appropriate explanation and return the written disagreement with the above Consent Agreement within the 45-day period set forth above.

06 PROCEDURES FOR FILING APPLICATIONS FOR mmANGE FROM CATEGORY B METHOD OF ACCOUNTING WHEN TAXPAYER IS UNDER EXAMINATION.

(1) ACCOUNTING METHOD ISSUE RAISED BY SERVICE.

A request for the application of this revenue procedure under subsection 5.12 of this revenue procedure shall be made by the taxpayer, other that an exempt organization, in a letter addressed to the Commissioner of Internal Revenue, Attention: CC:C:C:1, 1111 Constitution Avenue, N.W., Washington, D.C. 20224. An exempt organization will address the letter the Assistant Commissioner (Employee Plans and Exempt Organizations), 1111 Constitution Avenue, N.W., Washington, D.C. 20224. This request together with a properly completed current Form 3115 should be sent to the district director for the district in which the return is being examined. (In the case of an exempt organization it should be sent to the key district director for the district in which the return is being examined.) The Form 3115 filed under this paragraph shall be identified as being filed under the provisions of subsection 5.12 by putting at the top of page 1 of the Form 3115 `FILED UNDER SUBPARAGRAPH 5.12(1)(a) OF REV. PROC. 84-74`. The district director will forward the application and pertinent comments to the National Office and suspend examination action on the accounting method issue pending completion of action by the National Office on the taxpayer's request. The district director should verify that the amount of the section 481(a) adjustment is correct, that it has not been reduced by an amount attributable to tax years prior to 1954, and that the adjustment period and year of change have been determined in accordance with subsection 5.12. The Form 3115 should not be sent to the National Office unless the taxpayer and district director are in agreement with respect to the year of change, the amount of the section 481(a) adjustment, and the adjustment period. If the taxpayer, other than an exempt organization, and district director cannot agree as to these items, a technical advice request may be submitted to the National Office in accordance with Rev. Proc. 84-2, 1984-1 C.B. 342. If the exempt organization and the key district director cannot agree as to the terms, a technical advice request may be submitted to National Office in accordance with Rev. Proc. 80-26, 1980-1 C.B. 671.

(2) ACCOUNTING METHOD ISSUE NOT RAISED BY THE SERVICE.

If the Category B method of accounting to be changed is not an issue raised by the Service the taxpayer shall file a current Form 315 in accordance with the provisions of section 1.446-1(e)(3)(i) of the regulations for the current tax year. The Form 3115 shall be sent to the appropriate National Office address set forth above in paragraph 7.06(1) with a copy to the district director for the district in which the return is being examined. The Form 3115 shall be identified as being filed under subsection 5.12 of this revenue procedure by putting at the top of page 1 of the Form 3115 `FILED UNDER SUBPARAGRAPH 5.12(1)(b) OF REV. PROV. 84-74.` The adjustment period is to be determined under the provisions of subsection 5.06 of this revenue procedure.

07 SECTIONS OF REV. PROC. 84-1, 1984-1 C.B. 342, APPLICABLE TO THIS REVENUE PROCEDURE.

Sections 9 (specifically subsections 9.10, 9.11, 9.15, and 9.21), 11, 15, 16, and 17 of Rev. Proc. 84-1, pertaining, respectively, to Instructions to Taxpayers, Conference in the National Office, Withdrawal of Requests, Oral Advice to Taxpayers and Effect of Rulings are applicable to applications for changes in accounting methods (Form 3115) filed under this revenue procedure.

08 SECTIONS OF REV. PROC. 83-36, 1983-1 C.B. 763 (employee plan and exempt organization ruling and determination letters) APPLICABLE TO THIS REVENUE PROCEDURE.

Sections 7 (specifically subsections 7.10, 7.11, 7.12, 7.17 and 7.20), 8, 12, 13, and 14 of Rev. Proc. 83-36, pertaining, respectively to Instructions to Taxpayers, Conferences in the National Office, Withdrawal of Requests, Oral Advice to Taxpayers and Effect of Rulings are applicable to applications for changes in accounting methods (Form 3115) filed by exempt organizations under this revenue procedure.

SEC. 8. MISCELLANEOUS

01 CONFERENCES IN THE NATIONAL OFFICE.

(1) A SPECIFIC REQUEST NOT MADE IN WRITING.

The taxpayer should state in writing at the time the Form 3115 is filed under this revenue procedure whether the taxpayer or the taxpayer's authorized representative desires a conference if an adverse response is contemplated by the Service. If a conference is not specifically requested in writing at the time the taxpayer files Form 3115 under this revenue procedure or in a later written communication, the Service will presume that the taxpayer does not desire a conference.

(2) ADVERSE RESPONSE-CONFERENCE REQUEST.

If the taxpayer specifically states in writing that a conference is desired if a adverse response is contemplated by the Service, a conference will be arranged in the National Office prior to the Service's formal reply to the taxpayer's application. For Taxpayers other than exempt organizations, see section 11 Rev. Proc. 84-1. Exempt organizations see section 11 of Rev. Prov. 83-36.

02 EFFECT OF THIS REVENUE PROCEDURE ON OTHER OFFICES OF THE SERVICE-APPROPRIATE REPRESENTATIVE OF THE SERVICE.

The provisions of this revenue procedure are not intended to preclude an appropriate representative of the Service (an appeals official with delegated settlement authority) from settling a particular taxpayer's case involving an accounting method issue by means of agreeing to terms and conditions in the best interest of the Government. In that case, the terms and conditions used for this purpose generally shall be the applicable terms and conditions set forth in this revenue procedure. However, such terms and conditions may: (1) establish the year of change as a year earlier than the year specified in subparagraph 5.12(1)(a) and (2) be more restrictive than those provided by this revenue procedure. See also subparagraph 4.01(3)(b) of this revenue procedure.

SEC. 9. INQUIRIES

Inquiries in regard to this revenue procedure should refer to its number and be addressed to the Commissioner of Internal Revenue, Attention: CC:C:C:1, 1111 Constitution Avenue, N.W., Washington, D.C. 20224.

SEC 10. EFFECT ON OTHER DOCUMENTS

01 All those revenue procedures superseded by Rev. Proc. 80-51 remain superseded.

02 Rev. Proc. 80-51 is clarified and modified and as clarified and modified is superseded effective October 29, 1984.

03 Rev. Proc. 65-32 is clarified and modified (see Example D subsection 5.14 of this revenue procedure) and as clarified and modified is superseded.

SEC 11. EFFECTIVE DATE

01 All of the provisions of this revenue procedure, except as otherwise described below, are effective with respect to Forms 3115 filed for tax years beginning on or after October 29, 1984.

02 The provisions of paragraph 4.02(2), the 30-day provision, of this revenue procedure will not apply when the first day of the year of change for a Category A method of accounting would occur prior to January 1985. For example, if a taxpayer under examination for its tax year ended October 31, 1981, wishes to change its Category A method of accounting under the 30-day provision because it meets the requirements of paragraph 4.02(2) of this revenue procedure, the 30-day provision described in paragraph 4.02(2) will not apply until November 1, 1985, inasmuch as the tax year beginning November 1, 1985, will be the first available year of change.

03 The effective date for the adjustment period prescribed in subparagraph 5.06(1)(d) of this revenue procedure for a Category A method change other than THOR POWER type cases is as follows:

(1) For the two (2) tax years beginning after October 29, 1984, the taxpayer will be given an adjustment period under paragraph 5.06(1) not to exceed 6 tax years provided the taxpayer filed a current Form 3115 in accordance with the provisions of section 1.466-1(e)(3) of the regulations for either of those two (2) tax years.

(2) For Forms 3115 filed after the time period described above the adjustment period shall not exceed 3 tax years as provided for in subparagraph 5.06(1)(d) of this revenue procedure.

04 Because of the provisions of Rev. Proc. 80-5 requiring a change in method of accounting within the first tax year ending on or after December 25, 1979, the provisions of subsection 5.13 (concerning THOR POWER type case) are effective with respect to applications for change in method of accounting (Form 3115) for tax years beginning on or after October 29, 1984. The adjustment period is not to exceed 3 tax years. See subparagraph 5.06(1)(d).

05 The provisions of Subsection 5.10 (concerning discontinued use of the LIFO inventory method) are effective with respect to applications for change in accounting method (Form 3115) filed on or after December 1. 1980. Taxpayers applying for permission to readopt the LIFO inventory method, see paragraph 5.10(2). Taxpayers must file a current Form 3115 under the provisions of section 14.46-(c)(3) of the regulations for tax years beginning on or after October 29, 1984.