SECTION 5. PERMISSIBLE

METHODS OF ACCOUNTING

.01 DISTRIBUTION FEE PERIOD METHOD.

(1) Description of Method . The treatment of distributor commissions in accor

dance with the distribution fee period method is a permissible method of accounting. Under the distribution fee period method, a taxpayer must capitalize distributor commissions paid or incurred during the taxable year on the sale of shares in a mutual fund and amortize those amounts ratably over a specific recovery period determined by the number of years for which the 12b–1 plan provides the taxpayer is to receive a distribution fee from the mutual fund as a result of the sale of those shares (distribution fee period). Amortization for a short taxable year is based on the number of months in the short taxable year (taking into account the half-year convention if § 5.01(2)(b) applies).

(2) Pooling Allowed . (a) For purposes of accounting for distributor commissions under the distribution fee period method, a taxpayer may establish one or more pools of commissions. A pool may be established with respect to distributor commissions related to a class of shares of a mutual fund sold in a single taxable year. A pool of distributor commissions may contain commissions related to a class of mutual fund shares sold in a single taxable year from one or more mutual funds, provided the distributor commissions for each class of mutual fund shares is accounted for under the distribution fee method. However, a pool may only include distributor commissions related to a class of mutual fund shares sold in a single taxable year with the same distribution fee period and the same compensation structure.

(b) A taxpayer that establishes annual pools for purposes of using the distribution fee period method must compute the amount of the amortization deduction using a half-year convention.

(c) Distribution fees have the same compensation structure if they are calculated on the basis of the same percentage of the mutual fund’s average net assets.

(3) Termination of Right to Distribution Fees .

(a) Basis recovery allowed. A taxpayer that uses the distribution fee period method described in this § 5.01 may account for the termination of its right to receive a distribution fee for a particular share in a mutual fund by claiming in the year of termination a loss or, for a sale of the distributor’s right to all, or an undi

vided interest in a part, of its future distribution fees for the share, an offset against sales proceeds. A taxpayer that uses pools in connection with the distribution fee period method described in this § 5.01 determines its unrecovered basis in its right to receive distribution fees for particular shares in a prior year pool that are terminated by multiplying its unrecovered basis in the applicable pool of distributor commissions as of the beginning of the year by a fraction, the numerator of which is the number of terminated shares for which commissions were in the pool as of the beginning of the year and the denominator of which is the number of shares for which commissions were in the pool as of the beginning of the year. To determine the unrecovered basis for its right to receive distribution fees for a particular share in a current year pool that is terminated in the initial year (i.e., the year the share giving rise to the right to receive distribution fees is sold), the taxpayer must multiply the unrecovered basis in the applicable pool as of the end of the year by a fraction, the numerator of which is the number of shares terminated during the year for which commissions in the pool were paid or incurred during the year and the denominator of which is the number of shares sold during the year for which commissions in that pool were paid or incurred during the year. The unrecovered basis in the applicable pool of distributor commissions must be reduced by the basis allocable to the terminated shares, as determined in the preceding two sentences, before calculating the amortization deduction for the year. If a taxpayer does not have sufficient information to relate a termination event to a specific pool, the taxpayer must treat the termination event as relating to the earliest remaining pool in accordance with the principles of § 1.1012–1(c)(1).

(b) Termination events. For purposes of § 5.01(3)(a) of this revenue procedure, a taxpayer’s right to a distribution fee for a particular share terminates when the taxpayer is no longer entitled to receive a distribution fee related to that share in subsequent years. Termination may occur as a result of (i) a sale of the distributor’s right to all future distribution fees for the share, (ii) the redemption of the share by the shareholder, or (iii) the conversion of the share into another class of shares for

2000–40 I.R.B. 311 October 2, 2000

which the taxpayer is not entitled to receive a distribution fee. If a taxpayer sells an undivided interest in its right to all present and future distribution fees associated with a share or a portion of a pool, termination occurs in proportion to the interest sold.

.02 5-YEAR METHOD.

(1) Description of Method . The treatment of distributor commissions in accordance with the 5-year method is a permissible method of accounting. Under the 5-year method, a taxpayer must capitalize distributor commissions paid or incurred during the taxable year and amortize those amounts ratably over a 5-year period. Amortization for a short taxable year is based on the number of months in the short taxable year (taking into account the half-year convention).

(2) Pooling Required . (a) For purposes of accounting for distributor commissions under the 5-year method, a taxpayer must establish one or more pools of commissions. All commissions related to a class of shares of a mutual fund sold in a single taxable year must be in the same pool. A pool of distributor commissions may contain commissions related to classes of mutual fund shares from one or more mutual funds, provided the distributor commissions for each of the classes of mutual fund shares are accounted for using the 5-year method.

(b) A taxpayer that uses the 5-year method must compute the amount of the amortization deduction using a half-year convention.

(3) Termination of Right to Distribution Fees . A taxpayer that uses the 5-year method described in this § 5.02 may not claim a loss or an offset against sales proceeds for the unamortized portion of a distributor commission as a result of a termination event for a particular share, as described in § 5.01(3)(b) of this revenue procedure. However, if the taxpayer experiences a termination event with respect to the distribution fees related to all the shares in a pool, the taxpayer may claim a loss or an offset against sales proceeds for the unamortized portion of the distributor commissions in that pool. In addition, if a taxpayer sells an undivided interest in its right to all present and future distribution fees for all the shares in a pool, the tax

payer experiences a termination event with respect to the pool, but only in proportion to the interest sold, and may claim the corresponding loss or offset against sales proceeds.

.03 USEFUL LIFE METHOD

(1) Description of Method . The treatment of distributor commissions in accordance with the useful life method is a permissible method of accounting. Under the useful life method, a taxpayer must capitalize distributor commissions paid or incurred during the taxable year and recover those amounts over their estimated useful life. See § 1.167(a)–1(b).

(2) Determination of Useful Life . The recovery method and useful life of distributor commissions must be established by taking into account all the facts and circumstances including, for example, (i) the period during which the taxpayer is to receive distribution fees from a mutual fund under the 12b–1 plan with respect to particular shares, and (ii) the experience of the taxpayer regarding how long a typical share burdened with a given distribution fee remains outstanding after purchase. See § 1.167(a)–1(b).

(3) Pooling Allowed . For purposes of accounting for distributor commissions under the useful life method, a taxpayer may establish one or more pools of commissions. A taxpayer that establishes annual pools under the useful life method must compute the amount of the amortization deduction using a half-year convention.

(4) Retirement of Right to Distribution Fees . The determination of whether or not a taxpayer using the useful life method may claim a loss is governed by §1.167(a)–8. For example, if the useful life of the distributor commissions under the useful life method does not reflect any retirements, including a termination of a right to a distribution fee, the taxpayer may claim a loss for the unamortized portion of a distributor commission as a result of a retirement. If the useful life of the distributor commissions under the useful life method is an average useful life that reflects retirements, the taxpayer may not claim a loss for the unamortized portion of a distributor commission as a result of a retirement, regardless of whether the distributor commission is accounted for as a single asset or in a pool,

unless distributor commissions related to all the shares in the pool are retired.