January 5, 2024 IRS revises method change procedures under Revenue Procedure 2023-24 to allow taxpayers to rely on IRC Section 174 interim guidance in Notice 2023-63
In Revenue Procedure 2024-9 (released December 22, 2023), the IRS and Treasury Department modified Revenue Procedure 2023-24 (the list of automatic method changes). Section 3 of Revenue Procedure 2024-9 modifies Revenue Procedure 2023-24 to allow taxpayers to obtain automatic consent to change their method of accounting and rely on interim guidance under Sections 3 through 8 of Notice 2023-63, as modified by Notice 2024-12 (pertaining to IRC Sections 174 and 460), and other related method changes. Section 10.02 of Notice 2023-63 discusses the IRS and Treasury's intent to provide these procedures for taxpayers to obtain automatic consent to change their method of accounting to comply with Notice 2023-63 and permits taxpayers to rely on Section 7.02 of Revenue Procedure 2023-24 for that purpose until further guidance is issued. For more information on Notice 2023-63 and Notice 2024-12, see Tax Alerts 2023-1526 and 2024-0105. Modification to Revenue Procedure 2023-24 Revenue Procedure 2024-9 modifies Sections 7 and 19 of Revenue Procedure 2023-24 to establish procedures under IRC Section 446 and Treas. Reg. Section 1.446-1(e) for obtaining automatic consent to change methods of accounting and rely on Notice 2023-63's interim guidance under IRC Sections 174 and 460 for expenditures paid or incurred in tax years beginning after December 31, 2021. Revenue Procedure 2024-9 also clarifies Section 9 of Revenue Procedure 2023-24 by making Section 5 of Revenue Procedure 2000-50 obsolete for the costs of developing computer software if they are paid or incurred in any tax year beginning after December 31, 2021. Section 5 of Revenue Procedure 2000-50 continues to apply to the costs of developing computer software if they are paid or incurred in any tax year beginning on or before December 31, 2021. Reliance on interim guidance in Sections 3 through 7 of Notice 2023-63 — IRC Section 174 Revenue Procedure 2024-9's modification to Section 7.02 of Revenue Procedure 2023-24 allows taxpayers to rely on Sections 3 through 7 of Notice 2023-63, as modified by Notice 2024-12, for determining its specified research or experimental (SRE) expenditures that must be capitalized under IRC Section 174, as amended by the Tax Cuts and Jobs Act (TCJA). Section 7.02(1)(c)(ii) specifically provides that the change described in Section 7.02(1)(a) includes "treating an expenditure that does not meet the definition of an SRE expenditure as an SRE expenditure subject to capitalization and amortization under [IRC Section] 174(a) or Section 3.02 of Notice 2023-63, as applicable, to treating that expenditure under the appropriate provision of the Code." Revenue Procedure 2024-9 also modifies Section 7.02(2) of Revenue Procedure 2023-24 to add that the change described in Section 7.02(1)(a) does not apply to "a change from treating SRE expenditures paid or incurred by a taxpayer that transfers related property (that is, property with respect to which such SRE expenditures were paid or incurred) in an [IRC Section] 351 exchange as amortizable by the transferee corporation following such exchange to treating such SRE expenditures as amortizable by the transferor following such exchange (as such a change is not a change in method of accounting)." Interim guidance on the amortization of property transferred in IRC Section 351 exchanges is provided in Section 7 of Notice 2023-63. Reliance on interim guidance in Section 8 of Notice 2023-63 — Long-term contracts under IRC Section 460 Section 8 of Notice 2023-63 would modify the IRC Section 4601 regulations to address the treatment of SRE expenditures when computing income under the percentage-of-completion method (PCM). Under the PCM, as explained in Notice 2023-63, "the portion of the contract price a taxpayer must report in a tax year corresponds to the ratio of incurred allocable contract costs to total estimated allocable contract costs." Allocable contract costs, under Treas. Reg. Section 1.460-5(b)(2)(vi), include research or experimental costs (other than "independent research and development expenses"). Section 8.03 of Notice 2023-63 announces that Treasury and the IRS intend to issue proposed regulations that would limit the inclusion of SRE expenditures in the PCM ratio by including amortization of SRE expenditures (and not the amount incurred in the tax year) and would treat the amortization as "incurred" for purposes of determining the percentage of the contract completed. Section 3.03 of Revenue Procedure 2024-9 modifies Section 19 of Revenue Procedure 2023-24 to allow taxpayers to rely on Section 8 of Notice 2023-63 for determining the extent to which research or experimental costs are includable in allocable contract costs under Treas. Reg. Section 1.460-5(b)(2)(vi). Revenue Procedure 2024-9 modifies Section 19 of Revenue Procedure 2023-24 by adding new Section 19.02. The new designated accounting method change number for a change under Section 19.02 is 271. The change in method of accounting under new Section 19.02 of Revenue Procedure 2024-23 does not apply to (a) a change in method of accounting under IRC Section 460 for expenditures capitalized under IRC Section 59(e)(2)(B) or under IRC Section 174(b) before its amendment by the TCJA, (b) a change in method of accounting for independent research and development expenditures (as defined in IRC Section 460(c)(5)), which are not allocable contract costs, or (c) any contract not accounted for under the PCM as of the beginning of the year of change. Modification to Section 9 of Revenue Procedure 2023-24 — Computer software expenditures Section 12 of Notice 2023-63 states that, "[a]s a result of the TCJA amendments to [IRC Section] 174 and the rules in [S]ections 3 through 5 of this [N]otice, [S]ection 5 of [Revenue Procedure] 2000-50 (which provided accounting treatment similar to IRC Section 174, as in effect prior to 2022, for costs of developing computer software) is obsolete." Revenue Procedure 2024-9 clarifies Section 9.01(1) and (3) of Revenue Procedure 2023-24 to make, consistent with Section 12 of Notice 2023-63, as modified by Notice 2024-12, Section 5 of Revenue Procedure 2000-50 (which provides alternative methods of accounting for software development costs) obsolete for the costs of developing computer software if they were paid or incurred in any tax year beginning after December 31, 2021. Section 5 of Revenue Procedure 2000-50 continues to apply to the costs of developing computer software if they were paid or incurred in any tax year beginning on or before December 31, 2021. Audit protection For changes made under Section 7.02 of Revenue Procedure 2023-24 Section 3.01 of Revenue Procedure 2024-9 modifies Section 7.02(7) of Revenue Procedure 2023-24 (now Section 7.02(6) of Revenue Procedure 2023-24) to clarify that audit protection will not apply for expenditures paid or incurred in tax years beginning after December 31, 2021, if:
Therefore, taxpayers will receive audit protection for their treatment of expenditures paid or incurred in the tax year ended December 31, 2022, if they (1) made (or attempted to make) a change in method of accounting to comply with IRC Section 174 for the tax year ended December 31, 2022, and (2) changed their method of accounting for the tax year ended December 31, 2023, to implement one or more of Sections 3 through 7 of Notice 2023-63, as modified by Notice 2024-12. In contrast, taxpayers will not receive audit protection for their treatment of expenditures paid or incurred in the tax year ended December 31, 2022, if they (1) did not change (or attempt to change) their method of accounting to comply with IRC Section 174 for the tax year ended December 31, 2022, and (2) changed their method of accounting for the tax year ended December 31, 2023, to comply with IRC Section 174 or implement one or more of Sections 3 through 7 of Notice 2023-63, as modified by Notice 2024-12. Consistent with former Section 7.02(7) of Revenue Procedure 2023-24 (now Section 7.02(6) of Revenue Procedure 2023-24), audit protection will not apply for expenditures paid or incurred in tax years beginning on or before December 31, 2021. EY observation: Neither Revenue Procedure 2023-24 nor Revenue Procedure 2024-9 addresses audit protection for taxpayers changing their method of accounting for years following the year immediately after the first tax year beginning after December 31, 2021. Presumably, the regular rules under Section 8.01 of Revenue Procedure 2015-13 allowing audit protection would apply. This audit-protection rule may be especially relevant to taxpayers with short tax years occurring after December 31, 2021. For changes made under Section 19.02 of Revenue Procedure 2023-24 Under new Section 19.02(5), audit protection will not apply for a change under Section 19.02(1) for the IRC Section 460 treatment of expenditures paid or incurred in tax years beginning on or before December 31, 2021. Manner of implementing change For first tax year beginning after December 31, 2021 Section 7.02(3)(a)(ii) of Revenue Procedure 2023-24, as modified by Revenue Procedure 2024-9, waives the requirement of Treas. Reg. Section 1.446-1(e)(3)(i) to file a Form 3115, Application for Change in Accounting Method. Rather, taxpayers may submit a statement in lieu of a Form 3115 for the change in method of accounting for which the year of change is the first tax year beginning after December 31, 2021. Section 3.03 of Revenue Procedure 2024-9, which adds Section 19.02 to Revenue Procedure 2023-24, does not provide any exceptions from the requirement under Treas. Reg. Section 1.446-1(e)(3)(i) to file a Form 3115 for a change made under Section 19.02 of Revenue Procedure 2023-24. Sections 7.02(3)(a) and 19.02(3)(a) of Revenue Procedure 2023-24, as modified by Revenue Procedure 2024-9, require a taxpayer to make a change in method of accounting under Sections 7.02(1)(a) or 19.02(1) on a cut-off basis if the change is made for the taxpayer's first tax year beginning after December 31, 2021. Section 19.02(3)(a) also requires the change to be made on a cut-off basis. The change applies to all long-term contracts for which an SRE expenditure is an allocable contract cost, including long-term contracts entered before the beginning of the year of change. A taxpayer making this change does not recompute its taxable income under Treas. Reg. Section 1.460-4(b) for any tax year beginning on or before December 31, 2021. For a tax year following the taxpayer's first tax year beginning after December 31, 2021 Section 7.02(3)(b) of Revenue Procedure 2023-24, as modified by Revenue Procedure 2024-9, requires a taxpayer making the change for a tax year following the taxpayer's first tax year beginning after December 31, 2021, to (1) make that change with a modified IRC Section 481(a) adjustment that takes into account only SRE expenditures paid or incurred in tax years beginning after December 31, 2021, and (2) file a Form 3115. Section 19.02(3)(b) of Revenue Procedure 2023-24, as modified by Revenue Procedure 2024-9, requires a taxpayer making a change under Section 19.02(1) for a year of change later than the first tax year beginning after December 31, 2021, to make that change with a modified IRC Section 481(a) adjustment that takes into account the IRC Section 460 treatment of SRE expenditures paid or incurred in tax years beginning after December 31, 2021. This change applies to all long-term contracts for which an SRE expenditure is an allocable contract cost, including long-term contracts entered before the beginning of the year of change. For both changes, however, Revenue Procedure 2024-9 modifies the application of these rules by allowing the taxpayer to implement the change on a cut-off basis if a change results in a modified IRC Section 481(a) adjustment that is negative. Successive changes The eligibility rule in Section 5.01(1)(f) of Revenue Procedure 2015-13 restricts a taxpayer's ability to make an automatic change in method of accounting if the taxpayer made or requested a change for the same item during any of the five tax years ending with the year of change. Revenue Procedure 2024-9 modifies the language in former Section 7.02(6) of Revenue Procedure 2023-24, Certain eligibility rules inapplicable, (now reflected in Section 7.02(5) of Revenue Procedure 2023-24) and adds Section 19.02(4) to state that Section 5.01(f) of Revenue Procedure 2015-13 does not apply to a change described in Sections 7.02(1)(a) or 19.02(1) of Revenue Procedure 2023-24 for the taxpayer's first or second tax year beginning after December 31, 2021. Revenue Procedure 2024-9 adds Section 7.02(5)(b), Changes made in successive taxable years, to Revenue Procedure 2023-24 to allow taxpayers to make a change described in Section 7.02(1)(a) of Revenue Procedure 2023-24 (a change to comply with IRC Section 174, as amended by the TCJA, or rely on interim guidance provided in Sections 3 through 7 of Notice 2023-63, as modified by Notice 2024-12), for their second tax year beginning after December 31, 2021, "regardless of whether the taxpayer made, or purported to make, a change for the same item for its first [tax] year beginning after December 31, 2021." Effective date Revenue Procedure 2024-9 is effective for Forms 3115 filed on or after December 22, 2023. Implications Revenue Procedure 2024-9 offers welcome relief for taxpayers by providing procedures to obtain automatic consent to change their method of accounting to adopt the interim guidance in Notice 2023-63, as modified by Notice 2024-12. For taxpayers that have made a method change to try to comply with IRC Section 174 for their first tax year beginning after December 31, 2021, Revenue Procedure 2024-9's amendments to Revenue Procedure 2023-24 allow successive method changes to adopt interim guidance in Notice 2023-63 or refine the methods for determining whether a research-related expenditure is an SRE expenditure. For taxpayers with short tax years beginning after December 31, 2021, the waiver of Section 5.01(1)(f) of Revenue Procedure 2015-13 may be ineffective, as some may already be in the third tax year beginning after December 31, 2021, to which the relief does not apply. Taxpayers should evaluate whether making a method change to conform to IRC Section 174 or adopt the interim guidance in Notice 2023-63, as modified by Notice 2024-12, is advantageous, given the taxpayer's treatment of research-related expenditures for tax years beginning after December 31, 2021, and the limitations on audit protection under Section 7.02(6) of Revenue Procedure 2023-24, as revised by Revenue Procedure 2024-9. Proposed regulations under IRC Section 174 are anticipated to be issued in 2024, likely with additional accounting-method-change guidance.
——————————————— 1 IRC Section 460 includes rules for accounting for income from long-term contracts. | ||||||
|
