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TAX CLINIC

regulations are generally required to income may be accelerated such Further, the payments may only relate
be implemented by taxpayers no later that tax recognition will match the to certain items such as goods, services,
than tax years beginning on or after Jan. book timing for revenue recognition. the use of intellectual property, com-
1, 2021. However, the related cost of goods puter software, eligible gift cards, cer-
Perhaps two of the most significant sold (COGS) may not be accelerated tain warranty contracts, subscriptions,
opportunities are contained in Regs. for tax purposes. As a result, there memberships, and the occupancy or use
Sec. 1.451-3 and relate to contractual can be a mismatching of revenue of property ancillary to the provision
enforceable right provisions and an and COGS for tax purposes. In of services.
optional cost-of-goods offset. response to taxpayer concerns over Taxpayers with contracts allocated to
■ Enforceable right: Under the this potential mismatch, Treasury multiple performance obligations under
enforceable-right rule, taxpayers may provided the cost-offset method in the new standards should examine the
exclude from taxable income (and, the final regulations. The method treatment of revenue attributable to
accordingly, Sec. 451(b) recognition) does not provide a COGS deduction each performance obligation to deter-
amounts to which the taxpayer does when goods are produced over a mine the potential existence of an ad-
not have an enforceable right to period of time and an amount is vance payment eligible for deferral. For
recover if the taxpayer’s customer accelerated into income under the example, taxpayers offering loyalty pro-
were to terminate the contract to AFS income-inclusion rule. Instead, grams may have a portion of their sales
which the income relates on the last the final regulations allow a taxpayer allocated to the loyalty points provided
day of the tax year. The determina- to reduce the amount of revenue to a customer under the program. The
tion of whether the taxpayer has it would otherwise be required to regulations indicate that such an alloca-
an enforceable right is governed by include under the AFS income- tion may result in a deferral opportu-
the contract and applicable federal, inclusion rule for the tax year by the nity for the loyalty program revenue.
state, or international law. As such, cost of goods related to the item of
taxpayers need to possess a thorough inventory for the tax year. Procedural guidance
understanding of the facts surround- Under both the AFS income- Implementation of the foregoing rules
ing a transaction as well as how inclusion rule and the alternative meth- may prove to be almost as complex as
federal, state, or international law od, Regs. Sec. 1.451-3 requires three the rules themselves. The IRS released
is applied to the contractual terms additional adjustments to AFS revenue Rev. Proc. 2021-34, which modifies
of that transaction. Accordingly, an for purposes of Sec. 451(b): increase Rev. Proc. 2019-43, to provide pro-
analysis of enforceable-right provi- revenue for any reductions taken into cedures to obtain automatic consent
sions can prove burdensome and account in the financial statements for from the IRS to change methods of ac-
time-consuming for some taxpayers. liabilities properly accounted for under counting to comply with the final rules
Taxpayers that do not want to Sec. 461 or as COGS (however, see the under Regs. Secs. 1.451-3 and 1.451-8.
undertake the analysis each year cost-offset method above); increase rev- The revenue procedure itself is over 70
may instead adopt the alternative enue for amounts that were anticipated pages and contains extensive details re-
method, which does not make the to be in dispute or uncollectible; and lating to the multiple method changes
annual adjustments to AFS revenue decrease revenue for increases to the available, concurrent filings, streamlined
for the enforceable-right rule. transaction price as a result of a signifi- method change procedure, audit protec-
■ Cost offset: In the case of certain cant financing component. tion, netting of Sec. 481(a) adjustments,
types of transactions involving As indicated above, Sec. 451(c), and waiver of the ineligibility rule trig-
the production of goods over a as supported by the final regulations gered by changes in the prior five years.
period of time, financial statement (Regs. Sec. 1.451-8), codifies and As such, taxpayers must carefully ex-
reporting may now recognize modifies Rev. Proc. 2004-34 such that amine the revenue procedure for proper
(accelerate) the income and the certain advance payments are eligible application of the final regulations, as it
related production costs over time for the deferral method of accounting. is nuance-driven and, therefore, creates
as the entity produces the goods, To qualify as an advance payment, the the possibility for technical “foot faults”
rather than recognizing both at the payment must be eligible to be included in its application. Some of the more
point in time that the goods are in income in the year of receipt, and significant procedural rules relate to
delivered to the customer. Pursuant all or a portion of the payment must the following:
to the AFS income-inclusion rule, be reflected in the taxpayer’s AFS in a ■ The procedures and rules included
tax recognition of this production year subsequent to the year of receipt. therein are effective for all Forms

32 February 2022 The Tax Adviser