SECTION 7. PROCEDURES FOR A

SERVICE-INITIATED ACCOUNTING METHOD CHANGE

.01 Requirement to notify of treatment as method change.

(1) In general. An examining agent, appeals officer, or counsel for the government changing a taxpayer’s method of accounting will provide notice that a timing issue is being treated as an accounting method change.

(2) Form of notice. The notice must be in writing. If the taxpayer and the Service execute a closing agreement finalizing the change, the notice will be provided in the closing agreement. If the taxpayer and the Service do not execute a closing agreement, the notice ordinarily will be provided in the examiner’s report or the Form 870AD (Offer of Waiver of Restriction on Assessment and Collection of Deficiency in Tax and of Acceptance of Overpayment). However, the Service may also provide the notice in a preliminary notice of deficiency, a statutory notice of deficiency, a notice of claim disallowance, a notice of final administrative adjustment, a pleading (for example, a petition, complaint, or answer) or amendment thereto, or in any other similar writing provided to the taxpayer.

(3) Content of notice. The notice must include (a) a statement that the timing issue is being treated as an accounting method change or a clearly labeled § 481(a) adjustment, and (b) a description of the new method of accounting.

(4) Method not established without notice. The resolution of a timing issue will not establish a new method of accounting if the Service does not provide the notice required by section 7.01 of this revenue procedure. See section 9 of this revenue procedure for the procedures applicable if the Service does not provide this notice.

.02 Finalizing a Service-initiated method change.

(1) In general. To finalize a Serviceinitiated accounting method change, the taxpayer and the Service must execute a closing agreement under § 7121 in which the taxpayer agrees to the change and the terms and conditions of the change. In the absence of such an agreement, a Service-initiated accounting method change is final only upon the expiration of the period of limitations for filing a claim for refund under § 6511 for the year of change or the date of a final court order requiring the change.

(2) Content of closing agreement. A closing agreement finalizing a Serviceinitiated accounting method change must comply with the requirements of Rev. Proc. 68–16, 1968–1 C.B. 770, and must include a statement setting forth:

(a) the name, address, telephone number, and taxpayer identification num

ber of any taxpayer included in the agreement;

(b) the timing issue(s) covered by the agreement;

(c) the taxable years covered by the agreement;

(d) the facts and representations upon which the taxpayer and the Service relied in reaching the agreement;

(e) the taxpayer’s current method of accounting;

(f) the notification required by section 7.01 of this revenue procedure;

(g) the year of change; (h) the § 481(a) adjustment and the § 481(a) adjustment period, or that a cut-off method is being used;

(i) any computations under § 481(b);

June 1, 1998 16 1998–22 I.R.B.

(2) Succeeding years for which re- turns have been filed. If a Service-initiated accounting method change is finalized by a closing agreement, the Service may require the taxpayer to file amended returns to reflect the change for any affected succeeding taxable years for which a federal income tax return has been filed as of the date of the closing agreement. The amended returns must include the adjustments to taxable income and any collateral adjustments to taxable income or tax liability resulting from the change necessary to reflect the new method. The Service may require that the amended returns be filed prior to execution of the closing agreement finalizing the change. If the Service does not require the amended returns, the taxpayer should file such amended returns. If the Service does not require the amended returns and the taxpayer does not file the amended returns, the Service will make the adjustments necessary to reflect the change for affected succeeding taxable years when it examines the returns for those years. A taxpayer that files an amended return using the new method prior to the date a Service-initiated change becomes final must continue to use the new method on all subsequent returns, unless the taxpayer obtains the consent of the Commissioner to change from the new method or the Service changes the taxpayer from the new method on subsequent examination. See Rev. Rul. 90–38.

(3) Future years. The taxpayer must use the new method of accounting on all returns filed after the date that a Serviceinitiated accounting method change becomes final ( see section 7.02 of this revenue procedure), unless the taxpayer obtains the consent of the Commissioner to change from the new method or the Service changes the taxpayer from the new method on subsequent examination. A taxpayer that files a return using the new method prior to the date a Serviceinitiated change becomes final must continue to use the new method on all subsequent returns, unless the taxpayer obtains the consent of the Commissioner to change from the new method or the Service changes the taxpayer from the new method on subsequent examination. If the taxpayer does not use the new method on any return filed prior to the date a Service-initiated change becomes final, and

(a) In general. A taxpayer that executes a closing agreement finalizing a Service-initiated accounting method change will not be required to change or modify the new method for any taxable year for which a federal income tax return has been filed as of the date of the closing agreement, provided that:

(i) the taxpayer has complied with all the applicable provisions of the closing agreement;

(ii) there has been no taxpayer fraud, malfeasance, or misrepresentation of a material fact;

(iii) there has been no change in the material facts on which the closing agreement was based; and

(iv) there has been no change in the applicable law on which the closing agreement was based.

(b) Limitations. The Service may require the taxpayer to change or modify the new method in the earliest open taxable year if the taxpayer fails to comply with the applicable provisions of the closing agreement or upon a showing of the taxpayer’s fraud, malfeasance, or misrepresentation of a material fact. The Service may require the taxpayer to change or modify the new method in the earliest open taxable year in which the material

does not file amended returns to reflect the change, the Service will make the adjustments necessary to reflect the change for the affected taxable years when it examines those returns.

.04 Effect of final Service-initiated method change.

(1) New method established. A Service-initiated change that is final establishes a new method of accounting within the meaning of § 446(e) and § 1.446–1(e). As a result, the taxpayer is required to use the new method of accounting for the year of change and for all subsequent taxable years, unless the taxpayer obtains the consent of the Commissioner to change from the new method or the Service changes the taxpayer from the new method on subsequent examination.

(2) Subsequent examination. Except as provided in section 7.04(3) of this revenue procedure, the Service is not precluded from changing the taxpayer from the new method of accounting if the Service determines that the new method does not clearly reflect the taxpayer’s income.

(3) Audit protection.

facts have changed. The Service may also require the taxpayer to change or modify the new method in the earliest open taxable year in which the applicable law has changed. For this purpose, a change in the applicable law includes: (i) the enactment of legislation; (ii) a decision of the United States Supreme Court; (iii) the issuance of temporary or final regulations; or (iv) the issuance of a revenue ruling, revenue procedure, notice, or other guidance published in the Internal Revenue Bulletin. Except in rare and unusual circumstances, a retroactive change in applicable law is deemed to occur when one of the events described in the preceding sentence occurs and not when the change in law is effective.

.05 Coordination with Examination. An appeals officer or counsel for the government changing a taxpayer’s method of accounting will coordinate the resolution with Examination if the appeals officer or counsel for the government proposes to defer the year of change to any taxable year not before appeals or a federal court. Examination will advise the appeals officer or counsel for the government of any changes in material fact in any taxable year under examination and may comment on the proposed resolution, but the approval of the resolution by Examination is not required.

.06 Deemed cut-off method. If the Service does not impose a § 481(a) adjustment but otherwise provides the notice required by section 7.01 of this revenue procedure, the Service-initiated change will be treated as being made using a cutoff method, unless the Service and the taxpayer specifically have agreed in writing to compromise the amount of the § 481(a) adjustment.