Rev. Proc. 83-25

Section 1. Purpose

The purpose of this revenue procedure is to provide a procedure whereby certain corporations, which make an election to be an S corporation under the Subchapter S Revision Act of 1982, Pub. L. No. 97-354, 96 Stat. 1669, 1982-2 C.B. 702, as amended by the Technical Corrections Act of 1982, Pub. L. No. 97-448, 96 Stat. 2365, page 451, this Bulletin, may obtain approval of an adoption, a retention, or a change to an annual accounting period other than a tax year ending on December 31.

Sec. 2. Background

.01 Section 1378(a) of the Internal Revenue Code, as amended by the Subchapter S Revision Act of 1982 (the Act), states that no corporation may make an election to be an S corporation for any tax year other than a "permitted year." Section 1378(b) of the Code, as amended by the Act, defines the term "permitted year" as a tax year which (1) is a year ending December 31, or (2) is any other accounting period for which the corporation establishes a business purpose to the satisfaction of the Secretary.

.02 Section 6 of the Act, as amended by the Technical Corrections Act of 1982, provides effective dates and transitional and grandfather rules regarding the Act's amendments to the Code. Section 6(f) of the Act provides that the tax year requirements of section 1378 of the Code shall take effect for S corporation elections made after October 19, 1982.

.03 H. R. Rep. No. 97-986 (Conf. Rep.), 97th Cong., 2d Sess. 22 (1982), page 498, this Bulletin, which accompanied the Technical Corrections Act of 1982, states "(t)he conferees intend that the Internal Revenue Service, in determining whether a Subchapter S corporation may have a taxable year other than a calendar year, generally will apply rules similar to the rules applicable to partnerships."

.04 Section 1.706-1(b)(1)(ii) of the Income Tax Regulations provides that a newly formed partnership may adopt a tax year which is the same as the tax year of all its principal partners (or the same as the tax year to which all of its principal partners are concurrently changing) without securing prior approval from the Commissioner of Internal Revenue, or may adopt a calendar year without securing prior approval from the Commissioner if all its principal partners are not on the same tax year. In any other case, a newly formed partnership must secure prior approval from the Commissioner for the adoption of a tax year. In addition, section 1.706-1(b)(1)(iii) of the regulations provides that an existing partnership may not change its tax year without securing prior approval from the Commissioner, unless all its principal partners have the same tax year to which the partnership changes, or unless all its principal partners concurrently change to this tax year. See also, section 1.442-1(b)(2) of the regulations.

Rev. Proc. 72-51, 1972-2 C.B. 832, announces procedures to be followed by the Internal Revenue Service in approving a request by a partnership desiring to change to, or adopt, a tax year other than that of all its principal partners. Section 3.01 of Rev. Proc. 72-51 provides that requests by partnerships to adopt or change to an accounting period differing from that of its principal partners will generally be approved where the request for the adoption or change would result in a deferment of income to the partners of three months or less. As an example of this procedure, Rev. Proc. 72-51 indicates that a calendar year partnership will generally be granted permission to change to or adopt a fiscal year ending September 30, even though the partners are on a calendar year.

.05 Section 1.706-1(b)(4)(iii) of the regulations provides that where a partnership is required to secure prior approval from the Commissioner for a change in tax year or for the adoption of a tax year the applicant must establish a business purpose to the satisfaction of the Commissioner. In determining whether a business purpose has been established, consideration is given to all the facts and circumstances, including the federal income tax consequences. See also, section 1.442-1(b)(1) of the regulations. Section 1.706-1(b)(4) further indicates that the requirement of a business purpose will be met if the desired tax year coincides with the natural business year of the business.

Rev. Proc. 74-33, 1974-2 C.B. 489, states that whether there is or is not a natural business year depends primarily on the type of business and the locality. Where a trade or business has a non-peak period and a peak period of business, the natural business year is generally deemed to end at, or soon after, the close of the peak period of business. A business whose income is steady from month to month, year round, would not have a natural business year. To facilitate the consideration of a request to change an accounting period in order to conform to a taxpayer's natural business year, Rev. Proc. 74-33 indicates that the taxpayer should attach a statement to Form 1128 (Application for Change in Accounting Period) setting forth gross receipts from sales or services and approximate monthly inventory costs (where applicable) for each month in the requested short period and for each month of the three immediately preceding tax years.

.06 Sections 1.706-1(b)(4)(i) and (ii) of the regulations provide that where an existing partnership is required to obtain the approval of the Commissioner for a change in accounting period and where a newly formed partnership is required to secure approval from the Commissioner for the adoption of a tax year, the partnership shall file an application on Form 1128 with the Commissioner of Internal Revenue, Washington, D.C. 20224. See also sections 1.442-1(b)(1) and (2).

Sec. 3. Temporary, Income Tax Regulations Under the Subchapter S Revision Act of 1982

.01 Temporary regulations under the Act were published in the Federal Register on January 26, 1983 (48 FR 3590) T.D. 7872, page 193, this Bulletin. The temporary regulations provide certain procedures for the adoption, retention, and change of accounting periods by corporations in existence on January 1, 1982, who make an election after October 19, 1982 to be an S corporation under the Act.

.02 Section 18.1378-1(a) of the temporary regulations provides that no corporation may make an election to be an S corporation for any tax year unless the tax year is a permitted year. Section 18.1378-1(a) indicates that a permitted year is a tax year ending on December 31 or is any other tax year for which the corporation establishes a business purpose (within the meaning of section 1.442-1(b)(1) of the regulations) to the satisfaction of the Commissioner.

.03 Section 18.1378-1(b)(1) of the temporary regulations provides that a corporation may automatically change its tax year to a calendar tax year if all the principal shareholders (a shareholder having 5 percent or more of the outstanding stock of the corporation) either have calendar tax year, or simultaneously change to a calendar tax year. A shareholder may not change his or her tax year without securing prior approval from the Commissioner.

.04 Section 18.1378-1(b)(2)(i) of the temporary regulations provides that the filing of an election to be an S corporation by a corporation that has, prior to making the election, adopted a tax year ending other than on December 31, and that qualifies under section 18.1378-1(b)(1) for an automatic change of its tax year to a tax year ending on December 31, shall constitute such automatic change for the first tax year for which the election is effective. Where the tax year has been changed pursuant to sections 18.1378-1(b)(1) and (2)(i), the automatic change in accounting period commences on the first day of the first tax year for which the election would have been effective if the tax year had not been changed and ends December 31 of that tax year.

Section 18.1378-1(b)(2)(i) of the temporary regulations also provides that a corporation that has not previously adopted a tax year adopts a calendar tax year, unless the corporation specifically indicates otherwise, by making the S corporation election.

Section 18.1378-1(b)(2)(i) of the temporary regulations states that its rules are inapplicable with respect to any election governed by section 18.1378-1(b)(3) or by section 18.1378-1(c).

.05 Section 18.1378-1(b)(2)(ii) of the temporary regulations provides that a request to retain or adopt a tax year ending other than on December 31 by a corporation subject to paragraph (b)(2)(i) shall (except as provided in paragraph (b)(3)(ii) and in paragraph (c)) be made on Form 2553 (Election by a Small Business Corporation) when the election to be an S corporation is filed. If the corporation receives permission to retain or adopt a tax year ending other than on December 31 the election shall be effective. Denial of the request shall render the election ineffective unless: (1) the request is accompanied by another request in which the corporation states that, in the event of a denial, it chooses to change to, or adopt, a calendar tax year; or (2) the Commissioner waives the requirement to file the additional request and permits the corporation to change to or adopt a calendar tax year.

.06 Section 18.1378-1(b)(3) of the temporary regulations contains special rules applicable to certain corporations that filed an S corporation election within the period beginning after October 19, 1982 and ending before January 26, 1983 (publication date of the temporary regulations).

.07 Section 18.1378-1(c) of the temporary regulations provides that a corporation in existence on January 1, 1982 that filed an election to be an S corporation within the period beginning after October 19, 1982, and ending before the 76th day after the close of its tax year that ends in calendar year 1982, and that has a tax year ending on September 30, October 31, or November 30, shall retain its tax year (unless the corporation changes its tax year in accordance with the temporary regulations) and its election shall be effective.

.08 Section 18.1378-1(d) of the temporary regulations provides that an election to be an S corporation made after October 19, 1982 by a corporation that has a tax year ending other than on December 31 and does not qualify for an automatic change of its tax year to a tax year ending on December 31, shall be ineffective unless the corporation has first secured a permitted year. At the request of a corporation wishing to secure a permitted year, the Commissioner shall make a determination that: (1) the corporation's tax year is a permitted year; or (2) the corporation may, under section 1.442-1(b)(1) of the regulations change its tax year to a tax year ending on December 31, or (3) the corporation may, under section 1.442-1(b)(1) change its tax year to a tax year ending other than on December 31, which tax year shall be a permitted year.

Sec. 4. Application

.01 In accordance with section 1.442-1(b)(1) of the regulations and pursuant to sections 18.1378-1(a), (b)(2)(ii), (b)(3)(ii) and (d) of the temporary regulations and with respect to corporations qualifying for an automatic change under section 18.1378-1(b)(1) requesting to change to a tax year ending other than on December 31, approval is hereby granted under the specific circumstances described below to certain corporations, who make an election to be an S corporation under the Act, to adopt, retain, or change to an annual accounting period other than a tax year ending on December 31.

.02 The permitted year requirement of section 1378(a) of the Code is satisfied for corporations who adopt, retain, or change to a tax year ending other than on December 31, if shareholders holding more than one-half of the shares of the stock of the corporation (as of the first day of the tax year to which the request relates) have the same tax year or are concurrently changing to the tax year the corporation adopts, retains or changes to.

1 Where the corporation's tax year has been changed, the first year for which the election shall be effective shall commence on the first day of the first tax year for which the election would have been effective if the tax year had not been changed and end on the new accounting period year end date.

2 With respect to the situation in which the principal shareholders are concurrently changing to the tax year the corporation adopts, retains, or changes to, such shareholders may not change their tax year without securing prior approval from the Commissioner. See section 1.442-1(b)(1) of regulations for procedures to be followed in securing Commissioner approval.

.03 The permitted year requirement of section 1378(a) of the Code is satisfied for corporations who adopt, retain (other than corporations who made an S corporation election within the time period and for a tax year specified in section 18.1378-1(c) of the temporary regulations), or change to a tax year ending other than on December 31, if shareholders holding more than one-half of the shares of the stock of the corporations (as of the first day of the tax year to which the request relates) have a tax year or are concurrently changing to a tax year that results in a deferment of income to each of these shareholders of three months or less.

1 Where the corporation's tax year is changed under this section 4.03, the provisions of section 4.02(1) above are applicable.

2 In effecting the adoption or change in accounting period under this section, an adjustment is required if the first tax year is less than 12 months. The period for which the adjustment is measured begins on the first day of the new tax year and ends on the last day of the former tax year of the corporation, but not to exceed three months from the first day of the new year (the adjustment period). For example, a corporation changing its tax year under this section from a calendar tax year to a tax year ending November 30 would have a one month adjustment period.

3 The amount of the adjustment equals the excess of income over expenses of the corporation for the adjustment period. The adjustment amount must be included in the taxable income of the corporation for its short tax year (first tax year) to effect the adoption or change in tax year under this section.

4 One-tenth of the adjustment shall be deducted from corporation income for the short tax year required to effect the adoption or change and one-tenth shall be deducted from corporation income in each of the nine succeeding tax years.

5 In those situations where the expenses of the adjustment period exceed the income for the adjustment period, there is no adjustment required to effect the adoption or change in tax year under this section.

.04 The permitted year requirement of section 1378(a) of the Code is satisfied for corporations who adopt, retain, or change to a tax year ending other than on December 31, if the tax year adopted, retained, or changed to coincides with the corporation's natural business year.

1 Where the corporation's tax year is changed under this section 4.04, the provisions of section 4.021 above are applicable.

2 Solely for purposes of this revenue procedure, a corporation will be deemed to be adopting, retaining, or changing to a tax year that coincides with its natural business year if the results of the three computations described below for each of the three 12 month periods equals or exceeds 25 percent (the 25 percent test).

(a) The corporation's gross receipts from sales or services for the first preceding 12-month period (prior to the S corporation election becoming effective) ending with the last month of the requested natural business year are totaled and divided into the gross receipts from sales or services amount for the last two months of this 12 month period.

(b) The same computation in (a) above is made for the two preceding 12 month periods ending with the last month of the requested natural business year.

Example: Corporation A, prior to making an S corporation election, has adopted a tax year ending June 30. Pursuant to its S corporation election, Corporation A desires to change its tax year to a year ending January 31, as such year coincides with its natural business year. If Corporation A satisfies the 25 percent test, its first tax year as an S corporation under section 4.041 above would be for the short period July 1, 1983 thru January 31, 1984. Corporation A's total gross receipts from sales or services for the 12 month period beginning February 1, 1982 thru January 31, 1983 (first preceding 12 month period prior to effectuation of S corporation election ending on last month of requested natural business year) is $180,000. This 12 month gross receipts amount is then divided into $54,000, Corporation's A's gross receipts for the last two months of this 12 month period, yielding a 30 percent computation. Corporation A's computations for the two preceding 12 month periods ending January 31, 1982 and January 31, 1981 are 27 and 34 percent. As all three of the computations for the three 12 month periods exceed 25 percent, Corporation A will be deemed to have changed to a tax year that coincides with its natural business year.

(c) With respect to corporations desiring to come under this paragraph that have not, prior to making the S corporation election, adopted a tax year, the following additional rules are applicable.

(1) The corporation must be the successor to a predecessor organization that has actively conducted its business at least three years prior to the existence of the successor corporation and for a period that is sufficient to enable the determinations in divisions (2) or (3) of this subparagraph (c) to be made.

(2) Where the requested natural business year begins with the incorporation of the predecessor organization and ends 12 months thereafter, this same 12 month period ending on the last month of the requested natural business year of the predecessor organization for the prior three years is to be used for purposes of the 25 percent test.

Example. Corporation B began business on February 1, 1983 as a result of the incorporation of a sole proprietorship that used a calendar year. Pursuant to its S corporation election, Corporation B desires to adopt a tax year ending January 31, as such year coincides with the natural business year of the business. For purposes of determining whether it satisfies the 25 percent test, Corporation B would use the gross receipts amounts of the sole proprietorship for the 12 month periods ending January 31, 1983, January 31, 1982 and January 31, 1981, and the last two months of each of these 12 month periods.

(3) Where the requested natural business year does not begin with the period of incorporation, the first preceding 12 month period for purposes of the 25 percent test will be the last 12 month period of the predecessor organization ending on the last month of the requested natural business year. The preceding 12 month periods for purposes of the 25 percent test will be the prior two 12 month periods of the predecessor organization ending on the last month of the requested natural business year.

Example. Corporation C began business on November 1, 1982 as a result of the incorporation of a sole proprietorship that used a calendar year. Pursuant to its S corporation election, Corporation C desires to adopt a tax year ending January 31, as such year coincides with the natural business year of the business. If Corporation C satisfies the 25 percent test, its first tax year as an S corporation under section 4.041 above would be for the short period November 1, 1982 thru January 31, 1983. For purposes of determining whether it satisfies the 25 percent test, Corporation C would use the gross receipts amounts of the sole proprietorship for the 12 month periods ending January 31, 1982 (the last 12 month period of the predecessor organization ending on the last month of the requested natural business year), January 31, 1981 and January 31, 1980, and the last two months of each of these 12 month periods.

(d) Where the corporation qualifies under this section 4.04 for more than one natural business year, the natural business year and tax year that will be permitted under this revenue procedure must end with the two month period for which the highest average percentage of gross receipts is achieved applying the three computations described above in this section 4.04.

(e) Corporations that cannot establish a natural business year pursuant to this section 4.042 see section 8 of this revenue procedure.

Sec. 5. Records .01 The books of the corporation (records reflecting income adequately and clearly on the basis of an annual accounting period) must be closed as of the last day of the short period establishing a new tax year.

Sec. 6. Compliance with Conditions

.01 In accordance with section 1.442-1(b) of the regulations and sections 1378(a) and (b) of the Code, as amended by the Act, approval for the adoption, retention, or change in accounting period will not be granted unless the taxpayer and the Commissioner agree to the terms, conditions, and adjustments under which the change will be effected. In connection with the adoption, retention, or change in accounting period in accordance with the "permitted year" requirements of sections 1378(a) and (b) of the Code, all such terms, conditions, and adjustments are as set forth herein.

.02 Corporations adopting, retaining, or changing an accounting period other than to a tax year ending on December 31 pursuant to section 4.02, 4.03 or 4.04 of this revenue procedure without complying with or satisfying all the conditions of this revenue procedure will be deemed to have initiated an adoption, retention, or change in accounting period that is not a "permitted year" within the meaning of sections 1378(a) and (b) of the Code.

.03 Corporations described in section 6.02 above, will also have their S corporation election rendered ineffective.

Sec. 7. Manner of Effecting the Adoption, Retention or Change to a Tax Year Ending Other Than on December 31

.01 For those corporations who have timely filed or will timely file an S corporation election with the service center with which the corporation files or will file its tax return and who request to adopt, retain or change to a tax year ending other than on December 31 pursuant to this revenue procedure, such corporations should prepare and submit an additional statement to be associated with their S corporation election indicating the following:

1 the statement "FILED UNDER REV. PROC. 83-25";

2 the selected tax year and whether such selection represents an adoption, retention, or change of an accounting period;

3 the section of the revenue procedure that is applicable, i.e., section 4.02, section 4.03 or section 4.04;

4 one of the following representations, whichever is applicable, signed by a corporate officer:

(a) section 4.02--"Under penalties of perjury, I represent that shareholders holding more than one-half of the shares of the stock (as of the first day of the tax year to which the request relates) of__________(insert name of corporation) have the same tax year or are concurrently changing to the tax year (whichever is applicable) that __________(insert name of corporation) adopts, retains, or changes to (whichever is applicable) per this statement."

(b) section 4.03--"Under penalties of perjury, I represent that shareholders holding more than one-half of the shares of the stock (as of the first day of the tax year to which the request relates) of ___________(insert name of corporation) have a tax year or are concurrently changing to a tax year that results in a deferment of income to each of these shareholders of three months or less that ___________ (insert name of corporation) adopts, retains, or changes to (whichever is applicable) per his statement."

(c) section 4.04--"Under penalties of perjury, I represent that __________ (insert name of corporation) is adopting, retaining, or changing to (whichever is applicable) a tax year that coincides with its natural business year as verified by its satisfaction of the requirements of section 4.042(a), (b), (c), and (d) of Rev. Proc. 83-25."

Sec. 8. Corporations Who Desire to Adopt, Retain, or Change to a Tax Year Ending Other Than on December 31 and Who Do Not Come Within The Provisions of This Revenue Procedure

.01 Those corporations who make or will make an election to be an S corporation and who desire to adopt, retain, or change to a tax year not specified in sections 18.1378-1(b)(1), (b)(2)(i), (b)(3)(i) and (c) of the temporary regulations or this revenue procedure should attach a statement and other necessary information, pursuant to the ruling request requirements of Rev. Proc. 83-1, page 545, this Bulletin, to their S corporation election setting forth the business purpose for the desired tax year. These requests will be forwarded by the Service Centers to the National Office for consideration.

.02 The Commissioner's denial of their tax year request will render their S corporation election ineffective unless in accordance with sections 18.1378-1(b)(2)(ii) or (b)(3)(ii) of the temporary regulations the taxpayers files a back-up request or the Commissioner waives the requirement to file the additional request and permits the taxpayer to adopt or change to a tax year ending on December 31.

Sec. 9. Scope and Effective Date

This revenue procedure applies only to the tax years of corporations which are electing S corporation status pursuant to the filing of Form 2553. A corporation shall be permitted to adopt, retain or change its tax year only once pursuant to this revenue procedure and only during the period in which the taxpayer is permitted to file, and has filed, the Form 2553.

This revenue procedure shall be effective for S corporation elections made after October 19, 1982.

A corporation that has elected S corporation status after October 19, 1982, but prior to April 11, 1983, and wishes to apply the provisions of this revenue procedure must file the additional statement required by section 7 by July 1, 1983.

Sec. 10. Inquiries

Inquiries in regard to this revenue procedure should refer to its number and be addressed to the Commissioner of Internal Revenue, Attention CC:C:C:1, 1111 Constitution Avenue, N.W., Washington, D.C. 20224.