If you are a primarily a service-based business that has elected to utilize a pass-through tax operating structure treatment (i.e., S Corporation or partnership) and are not currently reporting your taxable income on the cash method, you are most likely at a disadvantaged cash flow financing position as compared to your competition.
Unlike you, your competition is not:
These are all factors that can diminish your company’s overall competitive edge!
Therefore, if you have previously been advised that your pass-through entity does not qualify for advantageous cash method reporting because is too large, you may have been misinformed. Being a large business (i.e., a pass-through entity with calculated average, annual, tax gross receipts over the past three years prior to the year of change in excess of $10M) does not automatically disqualify your business from using cash basis reporting. The key to cash basis eligibility is whether your business model is service-based and whether material and supplies used in your model are not considered income-producing items under tax law principles.
For example, in the case of a government contracting business model which quite often involves bundled contract arrangements (including subcontract teaming arrangements with pass-through cost elements), qualifying for cash basis reporting entails exploring strategies that would permit hybrid method reporting (e.g., cash/accrual basis) available to certain taxpayers that operate multiple, distinct, and separate trades or businesses that meet certain provisions defined under the current accounting method regulations. Therefore, don’t be discouraged if you are a large, pass-through, service-oriented entity — there is a good probability that after implementing certain restructuring tax planning strategies beyond the scope of this blog, your business model would be eligible for cash basis reporting.
Be advised that a large business candidate will not qualify under the current automatic accounting method change procedures, pursuant to Rev. Proc. 2011-14, to change to cash basis reporting. Accordingly, to legally effect such change, the taxpayer candidate must file for a formal accounting method application (IRS Form 3115) under Rev. Proc. 97-27 that requires the written consent and approval of the IRS National Office. Currently, the non-automatic accounting method application procedures involving taxpayers (i.e., not qualifying for reduced fee applicable to certain small taxpayers) requires the payment of a non- refundable user fee totaling $7,000 per application filing. To effect the change for the current year, the application form must be filed on or before the end of the year of the change. Thus, if you are a calendar year reporting taxpayer, to effect the change for 2013 calendar year, the application along with user fee must be filed on or before December 31, 2013. Because it generally takes, on average, at least six months to process and approve the application, it is strongly recommended that the application is prepared and filed as soon as possible. Ideally, you should file the application no later than late September for a calendar year reporting entity.