SECTION 5. PERMISSIBLE

METHODS OF ACCOUNTING FOR ADVANCE PAYMENTS

.01 Full Inclusion Method. As provided in section 4.01(2), a taxpayer within the scope of this revenue procedure that includes the full amount of advance payments in gross income for federal income tax purposes in the taxable year received is using a proper method of accounting under § 1.451–1, regardless of whether the taxpayer includes the full amount of advance payments in gross receipts for that taxable year for financial reporting purposes.

.02 Deferral Method. (1) In general. Except as otherwise provided in this revenue procedure, a taxpayer within the scope of this revenue procedure that uses the Deferral Method described in this section is using a proper method of accounting under § 1.451–1. Under the Deferral Method, for federal income tax purposes the taxpayer must include the advance payment in gross income for the taxable year of receipt to the extent the advance payment is included in gross receipts for financial reporting purposes for that year. The remaining amount of the advance payment must be included in gross income for the next succeeding taxable year.

(2) Tracing advance payments. To be eligible to use the Deferral Method, the taxpayer must have in place a methodology for determining that advance payments are included in gross income by the end of the next succeeding taxable year. In the case of goods or services that are not traced, a tax

.04 Considerable controversy exists about the scope of Rev. Proc. 71–21, especially with regard to Forms 3115, Application for Change in Accounting Method, filed by taxpayers requesting to change to the method provided in Rev. Proc. 71–21. In particular, taxpayers and the Service frequently disagree about whether advance payments are for services, some type of non-service, or some mixture of services and non-services. Advance payments for non-services (and often, for mixed services and non-services) do not qualify for deferral under Rev. Proc. 71–21. Thus, the difficulty in defining “services” under Rev. Proc. 71–21 results in controversy over whether the Service should grant a taxpayer’s request to change to the method provided in Rev. Proc. 71–21. In addition to the issue of defining “services” for purposes of Rev. Proc. 71–21, questions also arise about whether advance payments received under a series of agreements, or under a renewable agreement, are within the scope of Rev. Proc. 71–21. In the interest of reducing controversy about these issues, the Service has determined that it is appropriate to expand the scope of Rev. Proc. 71–21 to include advance payments for certain non-services and mixed services/ non-services. Additionally, the Service has determined that it is appropriate to expand the scope to include advance payments received in connection with an agreement or series of agreements with a term or terms extending beyond the end of the next succeeding taxable year. The Service has determined, however, that it is appropriate to retain the limited one-year deferral of Rev. Proc. 71–21 for taxpayers within the scope of this revenue procedure.