SECTION 7. CHANGE IN

ACCOUNTING METHOD

.01 In general. Any change in a taxpayer’s method of accounting pursuant to this revenue procedure is a change in method of accounting to which the provisions of §§ 446 and 481 and the regulations thereunder apply.

.02 Automatic change for taxpayers within the scope of this revenue procedure.

(1) Automatic change to the cash method. A qualifying small business taxpayer that wants to use the cash method as described in this revenue procedure for an eligible trade or business must follow the automatic change in accounting method provisions of Rev. Proc. 99–49 (1999-2 C.B. 725) (or its successor) with the following modifications:

(a) The scope limitations in section 4.02 of Rev. Proc. 99–49 do not apply. However, if the taxpayer is under examination, before an appeals office, or before a federal court with respect to any income tax issue, the taxpayer must provide a copy of the Form 3115, Application for Change in Accounting Method, to the examining agent(s), appeals officer, or counsel for the government, as appropriate, at the same time that it files the copy of the Form 3115 with the national office. The Form 3115 must contain the name(s) and telephone number(s) of the examining agent(s), appeals officer, or counsel for the government, as appropriate;

(b) Taxpayers filing Form 3115 for a change in method of accounting under this revenue procedure must complete all applicable parts of the form but need not complete Part II of Schedule A of Form 3115. Specifically, Part II, line 17 (regarding information on gross receipts in previous years) and Part III (regarding the § 481(a) adjustment) must be completed. Taxpayers should write “Filed under Rev. Proc. 2001–XX” at the top of their Form 3115.

Example 2. Taxpayer is a plumbing contractor that installs plumbing fixtures in customers’ homes and businesses. Taxpayer also has a store that sells plumbing equipment to homeowners and other plumbers who visit the store. Taxpayer derives 60 percent of its total receipts from plumbing installation (including amounts charged for parts and fixtures used in installation) and 40 percent of its total receipts from the sale of plumbing equipment through its store. Taxpayer reasonably determines that its principal business activity is plumbing installation, which is included in the construction activities described in NAICS code 23. Taxpayer may use the cash method for both business activities because Taxpayer is a qualifying small business taxpayer whose principal business activity—plumbing installation—is not described in the ineligible NAICS codes listed in section 4.01(a)–(e).

Example 3. Same as Example 2, except Taxpayer derives 40 percent of its total receipts from plumbing installation (including amounts charged for parts and fixtures used in installation) and 60 percent of its total receipts from the sale of plumbing equipment through its store. Taxpayer’s principal business activity is described in the ineligible NAICS code 44. Moreover, Taxpayer’s principal business activity is neither the provision of services under section 4.01(2) nor the fabrication or modification of tangible personal property under section 4.01(3). Therefore, Taxpayer may not use the cash method under this revenue procedure for its plumbing retail business. Taxpayer may use the cash method for its plumbing installation business if the Taxpayer keeps complete and separate books and records for its plumbing installation business and its plumbing retail business. If Taxpayer keeps one set of books and records for its plumbing installation business and its plumbing retail business, then Taxpayer is required to use an accrual method for both businesses.

Example 4 . Taxpayer sells refrigerators. As part of the sale price, Taxpayer will deliver the refrigerator to the customer and confirm that the refrigerator is functioning properly at the customer’s site. Taxpayer’s principal business activity is described in the ineligible NAICS code 44. Moreover, taxpayer’s principal business activity is not the provision of services under section 4.01(2). Taxpayer does not provide refrigerators incident to the performance of services. Rather, Taxpayer performs certain services (delivery and confirmation of functionality) incident to the sale of refrigerators. In addition, Taxpayer does not fabricate or modify tangible personal property under section 4.01(3). Taxpayer may not use the cash method under this revenue procedure.

Example 5 . Taxpayer is a sofa manufacturer that only produces sofas upon receipt of a customer order. Customers are allowed to pick among 150 different fabrics offered by the taxpayer or to provide their own fabric, which the taxpayer will use to finish the customer’s sofa. Taxpayer’s principal business activity is described in the ineligible NAICS code 33. Taxpayer does not provide sofas incident to the performance of services for purposes of section 4.01(2). Rather, Taxpayer performs certain services (upholstering) incident to the sale of sofas. Taxpayer also does not fabricate or modify tangible personal property for purposes of section 4.01(3) because customers merely choose among pre-selected options offered by Taxpayer and Tax

payer only makes minor modifications to the basic design of its sofa. Taxpayer may not use the cash method under this revenue procedure.

Example 6 . Taxpayer makes tools based entirely on specific designs and specifications provided to it by customers in their orders. Taxpayer’s principal business activity is described in the ineligible NAICS code 33. However, Taxpayer’s principal business activity is the fabrication of tangible personal property for purposes of section 4.01(3). Taxpayer may use the cash method under this revenue procedure (subject to the potential application of § 460).

Example 7 . Taxpayer is a roofing contractor that is a qualifying small business taxpayer eligible to use the cash method under sections 3 and 4 of this revenue procedure. Taxpayer, who uses the calendar year, chooses to use the cash method as described in this revenue procedure and to not account for inventories under § 471. Taxpayer enters into a contract with a homeowner in December 2001 to replace the homeowner’s roof. Taxpayer purchases roofing shingles from a local supplier and has them delivered to the homeowner’s residence. Taxpayer pays the supplier $5,000 for the shingles upon their delivery later that month. Taxpayer replaces the homeowner’s roof in December 2001, and gives the homeowner a bill for $15,000 at that time. Taxpayer receives a check from the homeowner in January 2002. Taxpayer deducts the $5,000 cost of the shingles on its 2001 Federal income tax return (the year the shingles are paid for by Taxpayer and provided to the customer in connection with the performance of roofing services). Taxpayer includes the $15,000 in income in 2002 when it receives the check from the homeowner.

Example 8 . The facts are the same as in Example 7, except that Taxpayer does not replace the roof until January 2002 and is not paid until March 2002. Because the shingles are not used until 2002, their cost can only be deducted on Taxpayer’s 2002 Federal income tax return notwithstanding that Taxpayer paid for the shingles in 2001. Thus, on its 2002 return, Taxpayer must report $15,000 of income and $5,000 of deductions.

Example 9 . Taxpayer, a qualifying small business taxpayer, elects to use the cash method as described in this revenue procedure. Taxpayer is a speculative builder of houses that are built on land it owns. In 2001, Taxpayer builds a house using various items such as lumber, piping, and metal fixtures that it had paid for in 2000. In 2002, Taxpayer sells the house to a buyer. Because the house is real property held for sale by Taxpayer, it is not an inventoriable item under section 4.03 of this revenue procedure. Thus, the taxpayer may not account for the items used to build the house as non-incidental materials and supplies under § 1.162–3. Rather, Taxpayer must capitalize the costs of the lumber, piping, metal fixtures and other goods used by Taxpayer to build the house. Upon the sale of the house in 2002, the costs capitalized by Taxpayer will be offset against the house sales price to determine Taxpayer’s gain or loss from the sale.

Example 10 . The facts are the same as in Example 9, except that Taxpayer builds houses on land its customers own. Because Taxpayer does not own the house, the lumber, piping, metal fixtures and other goods used by Taxpayer in the provision

December 26, 2001 616 2001–52 I.R.B.

business under section 4.01 of this revenue procedure.

CONTACT INFORMATION

For further information regarding this revenue procedure, contact Cheryl Lynn Oseekey of the Office of Associate Chief Counsel (Income Tax and Accounting) at (202) 622–4970 (not a toll-free call).

Weighted Average Interest Rate Update

Notice 2001–80

Notice 88–73 provides guidelines for determining the weighted average interest rate and the resulting permissible range of interest rates used to calculate current liability for the purpose of the full funding limitation of § 412(c)(7) of the Internal Revenue Code as amended by the Omnibus Budget Reconciliation Act of 1987 and as further amended by the Uruguay Round Agreements Act, Pub. L. 103–465 (GATT). The average yield on the 30–year Treasury Constant Maturities for November 2001 is 5.12 percent.

The following rates were determined for the plan years beginning in the month shown below.

(2) Automatic change to section 1.162–3. A qualifying taxpayer that does not want to account for inventories under § 471 of an eligible trade or business must make any necessary change from the taxpayer’s current method of accounting for inventoriable items in that trade or business to treat such inventoriable items in the same manner as materials and supplies that are not incidental under section 1.162–3. For purposes of such a change, the rules of section 6.02(1) of this revenue procedure apply. Taxpayers may file a single Form 3115 for both changes described in sections 7.02(1) and 7.02(2).

.03 Section 481(a) adjustment. The net amount of the § 481(a) adjustment computed under this revenue procedure must take into account both increases and decreases in the applicable account balances such as accounts receivable, accounts payable, and inventory. For example, the § 481(a) adjustment may include the difference resulting from changing from taking inventory accounts under § 471 to treating the goods as materials and supplies that are not incidental under § 1.162–3.

.04 Taxpayers not within the scope of this revenue procedure. A taxpayer that ceases to qualify for the qualifying small business taxpayer exception described in section 4 of this revenue procedure for any trade or business and otherwise is

required to use an accrual method for that trade or business must change to an accrual method (and, if applicable an inventory method that complies with § 471) for that trade or business using either the automatic change in accounting method provisions of section 5.01 of the APPENDIX to Rev. Proc. 99–49, if applicable, or the advance consent provisions of Rev. Proc. 97–27 (1997–1 C.B. 680) (or its successor).