IRS Revenue Procedure
2002-38

 Code Secs. 441, 442, 444, 706, 1378



<<FULL TEXT>>

26 CFR 601.204: Changes in accounting periods and in methods of
accounting.
(Also Part I, sections 441, 442, 444, 706, 1378; 1.441-1, 1.441-3,
1.442-1, 1.706-1, 1.1378-1.)


REV. PROC. 2002-38

CONTENTS

SECTION 1. PURPOSE

SECTION 2. BACKGROUND
.01 Taxable Year Defined
(1) In general
(2) Annual accounting period
(3) Required taxable year
.02 Adoption of a Taxable Year
.03 Change in Taxable Year
(1) In general
(2) Annualization of short period return
(3) No retroactive change in annual accounting period
.04 Retention of a Taxable Year
.05 Approval of an Adoption, Change, or Retention
.06 Business Purpose
(1) Sufficient business purposes
(2) Natural business year
.07 Section 444 Elections

SECTION 3. SIGNIFICANT CHANGES

SECTION 4. SCOPE
.01 Applicability
(1) Required taxable year
(2) Natural business year
(3) Ownership taxable year
(4) Certain 52-52-week taxable years
(5) Certain changes in ownership of partnerships
.02 Inapplicability
(1) Under examination
(2) Before an area office
(3) Before a federal court
(4) Partnerships and S corporations
(5) Prior change
.03 Nonautomatic Changes

SECTION 5. DEFINITIONS
.01 Taxpayer
.02 Electing S Corporations
.03 Required Taxable Year
.04 Permitted Taxable Year
.05 Natural Business Year
(1) Prior three years gross receipts
(2) Natural business year
(3) Special rules
.06 Ownership Taxable Year
.07 Grandfathered Fiscal Year
.08 First Effective Year
.09 Short Period
.10 Field Office, Area Office, Director
.11 Under Examination
(1) In general
(2) Partnerships and S corporations subject to TEFRA
.12 Issue Under Consideration
(1) During an examination
(2) Before an area office
(3) Before a federal court
.13 Personal Service Corporation

SECTION 6. TERMS AND CONDITIONS
.01 In General
.02 Short Period Tax Return
.03 Subsequent Year Tax Returns
.04 Record Keeping/Book Conformity
.05 Changes in Natural Business Year
.06 Changes in Ownership Taxable Year
.07 52-53-week Taxable Years
.08 Creation of Net Operating Loss or Capital Loss
.09 Creation of General Business Credits

SECTION 7. GENERAL APPLICATION PROCEDURES
.01 Approval
.02 Filing Requirements
(1) Where to file
(2) When to file
(3) Label
(4) Signature requirements
(5) No user fee
(6) Additional information
.03 Additional Procedures If Under Examination, Before an Area Office,
or Before a Federal Court
(1) Taxpayers under examination
(2) Taxpayers before an area office
(3) Taxpayers before a federal court

SECTION 8. EFFECT OF APPROVAL
.01 Audit Protection
(1) In general
(2) Exceptions
.02 Subsequently Required Changes
(1) In general
(2) Retroactive change

SECTION 9. REVIEW OF APPLICATION
.01 Service Center Review
.02 Review of Director

SECTION 10. EFFECTIVE DATE AND TRANSITION RULE
.01 Effective Date
.02 Transition Rule

SECTION 11. EFFECT ON OTHER DOCUMENTS

SECTION 12. PAPERWORK REDUCTION ACT

DRAFTING INFORMATION


SECTION 1. PURPOSE

This revenue procedure provides the exclusive procedures for certain
partnerships, S corporations, electing S corporations (as defined in
section 5.02), and personal service corporations (PSCs) to obtain
automatic approval to adopt, change, or retain their annual accounting
period under section 442 of the Internal Revenue Code and section
1.442-1(b) of the Income Tax Regulations. This revenue procedure
clarifies, modifies, amplifies, and supersedes Rev. Proc. 87-32, 1987-2
C.B. 396. A partnership, S corporation, electing S corporation, or PSC
complying with the applicable provisions of this revenue procedure will be
deemed to have established a business purpose and obtained the approval of
the Commissioner of the Internal Revenue Service to adopt, change, or
retain its annual accounting period under section 442 and the regulations
thereunder.


SECTION 2. BACKGROUND

.01 TAXABLE YEAR DEFINED.

(1) IN GENERAL. Section 441(b) and section 1.441-1(b)(1) provide that
the term "taxable year" generally means the taxpayer's annual accounting
period, if it is a calendar year or fiscal year, or, if applicable, the
taxpayer's required taxable year.

(2) ANNUAL ACCOUNTING PERIOD. Section 441(c) and section 1.441-1(b)(3)
provide that the term "annual accounting period" means the annual period
(calendar year or fiscal year) on the basis of which the taxpayer
regularly computes its income in keeping its books.

(3) REQUIRED TAXABLE YEAR.

(a) IN GENERAL. Section 1.441-1(b)(2) provides that certain taxpayers
must use the particular taxable year that is required under the Code and
the regulations thereunder. For example, as described below, a
partnership, S corporation, or PSC has a required taxable year that
generally conforms to the taxable year of its owners. H.R. Rep. No. 99-841
(Conf. Rep.), 99th Cong., 2d Sess., II-318 (1986), 1986-3 (Vol. 4) C.B.
319. Exceptions are provided for certain taxpayers, including a
partnership, S corporation, or PSC, that make an election under section
444, elect to use a 52-53-week taxable year that ends with reference to
its required taxable year or a taxable year elected under section 444, or
establish a business purpose for having a different taxable year and
obtain approval under section 442.

(b) PARTNERSHIPS. Section 706(b) and section 1.706-1(b)(2) generally
provide that a partnership's taxable year must be its required taxable
year. However, a partnership may have a taxable year other than its
required taxable year if it makes an election under section 444, elects to
use a 52-53-week taxable year that ends with reference to its required
taxable year or a taxable year elected under section 444, or establishes a
business purpose for having a different taxable year and obtains the
approval of the Commissioner under section 442. The required taxable year
for a partnership is:

(i) the taxable year of one or more of its partners who have an
aggregate interest in partnership profits and capital of greater than 50
percent;

(ii) if there is no taxable year described in clause (i), the taxable
year of all the principal partners of the partnership (i.e., all the
partners having an interest of 5 percent or more in partnership profits or
capital); or

(iii) if there is no taxable year described in clause (i) or (ii), the
taxable year that results in the least aggregate deferral of income to the
partners.


(c) S CORPORATIONS. Section 1378 and section 1.1378-1(a) provide that
the taxable year of an S corporation must be a permitted year. The term
"permitted year" means (1) the required taxable year (i.e., a taxable year
ending on December 31), (2) a taxable year elected under section 444, (3)
a 52-53-week taxable year ending with reference to the required taxable
year or a taxable year elected under section 444, or (4) any other
accounting period for which the corporation establishes a business purpose
to the satisfaction of the Commissioner.

(d) PSCs. Section 441(i)(1) and section 1.441-3 provide that the
taxable year of a PSC must be the calendar year unless the PSC makes an
election under section 444, elects to use a 52-53-week taxable year that
ends with reference to the calendar year or a taxable year elected under
section 444, or establishes, to the satisfaction of the Commissioner, a
business purpose for having a different period for its taxable year.


.02 ADOPTION OF A TAXABLE YEAR. A newly-formed partnership, S
corporation, or PSC may adopt its required taxable year, a taxable year
elected under section 444, or a 52-53-week taxable year ending with
reference to its required taxable year or a taxable year elected under
section 444 without the approval of the Commissioner pursuant to section
441. If, however, a partnership, S corporation, or PSC wants to adopt any
other taxable year, it must establish a business purpose and obtain
approval under section 442. See section 1.441-1(c).

.03 CHANGE IN TAXABLE YEAR.

(1) IN GENERAL. Section 1.442-1(a) generally provides that a taxpayer
that wants to change its annual accounting period and use a new taxable
year must obtain the approval of the Commissioner.

(2) ANNUALIZATION OF SHORT PERIOD RETURN. Section 443(b) and section
1.443-1(b)(1)(i) provide that if a return is made for a short period
resulting from a change of an annual accounting period, the taxable income
for the short period must be placed on an annual basis by multiplying the
income by 12 and dividing the result by the number of months in the short
period. Unless section 443(b)(2) and section 1.443-1(b)(2) apply, the tax
for the short period generally is the same part of the tax computed on an
annual basis as the number of months in the short period is of 12 months.
But see sections 1.706-1(b)(8)(i)(B) and 1.1378-1(c)(2) for exceptions to
this general rule for partnerships and S corporations, respectively.

(3) NO RETROACTIVE CHANGE IN ANNUAL ACCOUNTING PERIOD. Unless
specifically authorized by the Commissioner, a taxpayer may not request,
or otherwise make, a retroactive change in annual accounting period,
regardless of whether the change is to a required taxable year.


.04 RETENTION OF A TAXABLE YEAR. In certain cases, a partnership, S
corporation, electing S corporation, or PSC will be required to change its
taxable year unless it establishes a business purpose and obtains the
approval of the Commissioner under section 442, or makes an election under
section 444, to retain its current taxable year. See section 1.441-1(d).
For example, a corporation on a June 30 fiscal year that either becomes a
PSC or elects to be an S corporation, and as a result is required to use
the calendar year, must obtain the approval of the Commissioner to retain
its current fiscal year. Similarly, a partnership using a taxable year
that corresponds to its required taxable year generally must obtain the
approval of the Commissioner to retain that taxable year if its required
taxable year changes as a result of a change in ownership. But see section
706(b)(4)(B). However, a partnership that has previously established a
business purpose to the satisfaction of the Commissioner to use a
particular fiscal year is not required to obtain the approval of the
Commissioner to retain such fiscal year if its required taxable year
changes.

.05 APPROVAL OF AN ADOPTION, CHANGE, OR RETENTION. Section 1.442-1(b)
provides that in order to secure the approval of the Commissioner to
adopt, change, or retain an annual accounting period, a taxpayer must file
an application, generally on Form 1128, Application to Adopt, Change, or
Retain a Tax Year, with the Commissioner within such time and in such
manner as is provided in administrative procedures published by the
Commissioner. In general, an adoption, change, or retention in annual
accounting period will be approved where the taxpayer establishes a
business purpose for the requested annual accounting period and agrees to
the Commissioner's prescribed terms, conditions, and adjustments for
effecting the adoption, change, or retention.

.06 BUSINESS PURPOSE.

(1) SUFFICIENT BUSINESS PURPOSES. Section 1.442-1(b)(2) provides that
generally the requirement of a business purpose will be satisfied, and
adjustments to neutralize any tax consequences will not be required, if
the requested annual accounting period coincides with the taxpayer's
required taxable year, ownership taxable year, or natural business year.
Section 1.442-1(b)(2) also provides that, in the case of a partnership, S
corporation, electing S corporation, or PSC, deferral of income to
partners, shareholders, or employee-owners, will not be treated as a
business purpose.

(2) NATURAL BUSINESS YEAR. A taxpayer is deemed to have established a
natural business year if it satisfies the "25-percent gross receipts
test." See Rev. Proc. 83-25, 1983-1 C.B. 689, superseded by Rev. Proc.
87-32. The Conference Report to the Tax Reform Act of 1986 states that the
Secretary may prescribe other tests in addition to the 25-percent gross
receipts test to be used to establish the existence of a business purpose
if, in the discretion of the Secretary, such tests are desirable and
expedient towards the efficient administration of the tax laws. See H.R.
Rep. No. 99-841 (Conf. Rep.), 99th Cong., 2d Sess., II-318 (1986), 1986-3
(Vol. 4) C.B. 319.


.07 SECTION 444 ELECTIONS. A partnership, S corporation, electing S
corporation, or PSC generally can elect under section 444 to use a taxable
year other than its required taxable year, but only if the deferral period
of the taxable year elected is not longer than the shorter of 3 months or
the deferral period of the taxable year being changed. A partnership and
an S corporation with a section 444 election must make required payments
under section 7519 that approximate the amount of deferral benefit and a
PSC with a section 444 election is subject to the minimum distribution
requirements of section 280H. A taxpayer may automatically adopt, change
to, or retain a taxable year permitted under section 444 by filing a Form
8716, Election to Have a Taxable Year Other Than a Required Taxable Year.
A taxpayer that wants to terminate its section 444 election must follow
the automatic procedures under section 1.444-1T(a)(5) to change to its
required taxable year or establish a business purpose for using a
different taxable year pursuant to section 442, the regulations
thereunder, and Rev. Proc. 2002-39, 2002-22 I.R.B. 1046, or this revenue
procedure (whichever is applicable).


SECTION 3. SIGNIFICANT CHANGES

Significant changes to Rev. Proc. 87-32 made by this revenue procedure
include:

.01 Section 4.01(1) of this revenue procedure clarifies that a
partnership, S corporation, electing S corporation, or PSC may change
automatically to its required taxable year;

.02 Section 4.01(2) of this revenue procedure allows a partnership, S
corporation, electing S corporation, or PSC to change automatically to a
natural business year that satisfies the 25-percent gross receipts test,
regardless of whether such year results in more deferral of income than
its present taxable year;

.03 Sections 4.01(1), (2), and (3) of this revenue procedure allow, in
appropriate circumstances, a partnership, S corporation, electing S
corporation, or PSC to adopt, change to, or retain a 52-53-week taxable
year ending with reference to the required taxable year, natural business
year, or ownership taxable year;

.04 Section 4.01(4) of this revenue procedure allows any partnership, S
corporation, electing S corporation, or PSC to automatically change from a
52-53-week taxable year to a non-52-53-week taxable year that ends with
reference to the same calendar month, and vice versa;

.05 Section 4.01(5) of this revenue procedure allows a partnership that
would be required to change its taxable year because of a minor percentage
change in ownership to retain its current taxable year for one year,
subject to certain circumstances;

.06 Section 4 of this revenue procedure allows a PSC to automatically
change its taxable year even if the PSC makes an S corporation election
for the taxable year immediately following the short period;

.07 Sections 4.02(1)-(4) of this revenue procedure generally prevent a
partnership, S corporation, electing S corporation, or PSC from using this
revenue procedure to change its annual accounting period if the taxpayer
is under examination and does not obtain consent from the appropriate
director, or is before an area office or before a federal court and its
annual accounting period is an issue under consideration;

.08 Section 4.02(5) of this revenue procedure reduces the period of
time required between a prior accounting period change and a change
effected under this revenue procedure from 6 calendar years to 48 months,
and provides that a change to a required or ownership taxable year, and a
change to (or from) a 52-53-week taxable year from (or to) a
non-52-53-week taxable year ending with reference to the same calendar
month, will not be considered changes within the most recent 48-month
period;

.09 Section 5.06 of this revenue procedure has been expanded to
disregard the interests of certain tax-exempt entities for purposes of
determining the ownership taxable year of an S corporation or electing S
corporation, unless the S corporation or electing S corporation is
wholly-owned by such tax-exempt entities;

.10 Section 6.04 of this revenue procedure adds a term and condition
requiring the taxpayer to compute its income and keep its books and
records (including financial statements) on the basis of the requested
taxable year, except in certain circumstances;

.11 Section 6.08 of this revenue procedure adds a term and condition to
prevent the carryback of certain capital losses generated in the short
period;

.12 Section 7.02(2) of this revenue procedure extends the filing
requirements for filing a Form 1128 to the due date of the taxpayer's
federal income tax return (including extensions) for the first effective
year; and

.13 Section 8.01 provides audit protection for partnerships, S
corporations, electing S corporations, or PSCs that change their annual
accounting period under this revenue procedure.


SECTION 4. SCOPE

.01 APPLICABILITY. Except as provided in section 4.02, this revenue
procedure, which is the exclusive procedure for taxpayers within its scope
to secure the Commissioner's approval, applies to:

(1) REQUIRED TAXABLE YEAR. A partnership, S corporation, electing S
corporation, or PSC that wants to change to its required taxable year (as
defined in section 5.03 of this revenue procedure), or to a 52-53-week
taxable year ending with reference to such taxable year;

(2) NATURAL BUSINESS YEAR. A partnership, S corporation, electing S
corporation, or PSC (other than a member of a tiered structure as defined
in section 444 and section 1.444-2T) that wants to change to or retain a
natural business year that satisfies the 25-percent gross receipts test
described in section 5.05 of this revenue procedure, or to a 52-53-week
taxable year ending with reference to such taxable year;

(3) OWNERSHIP TAXABLE YEAR. An S corporation or electing S corporation
that wants to adopt, change to, or retain its ownership taxable year (as
defined in section 5.06 of this revenue procedure), or a 52-53-week
taxable year ending with reference to such taxable year;

(4) CERTAIN 52-53-WEEK TAXABLE YEARS. A partnership, S corporation,
electing S corporation, or PSC that wants to change from a 52-53-week
taxable year that references a particular calendar month to a
non-52-53-week taxable year that ends on the last day of the same calendar
month, and vice versa; and

(5) CERTAIN CHANGES IN OWNERSHIP OF PARTNERSHIPS. A partnership that is
required to change its taxable year under section 706(b)(1)(B) because of
a change in its ownership may continue to use its current taxable year for
a period of one taxable year, provided that:

(A) the change in ownership is less than 10 percent of all partners'
aggregate interests in partnership profits and capital; and

(B) it is reasonably foreseeable that, at the end of one taxable year,
the change in ownership will be reversed. If, at the end of one taxable
year, the partnership cannot meet either section 4.01(1) or (3) of this
revenue procedure for its current taxable year, then it must change to its
required or permitted taxable year under section 4.01(1) of this revenue
procedure.


.02 INAPPLICABILITY. This revenue procedure does not apply to:

(1) UNDER EXAMINATION. A change or retention in annual accounting
period if the partnership, S corporation, electing S corporation, or PSC
is under examination, unless it obtains consent of the appropriate
director as provided in section 7.03(1) of this revenue procedure;

(2) BEFORE AN AREA OFFICE. A change or retention in annual accounting
period if the partnership, S corporation, electing S corporation, or PSC
is before an area office with respect to any income tax issue and its
annual accounting period is an issue under consideration by the area
office;

(3) BEFORE A FEDERAL COURT. A change or retention in annual accounting
period if the partnership, S corporation, electing S corporation, or PSC
is before a federal court with respect to any income tax issue and its
annual accounting period is an issue under consideration by the federal
court;

(4) PARTNERSHIPS AND S CORPORATIONS. A change or retention in annual
accounting period by a partnership or S corporation if, on the date the
entity would otherwise file its application with the Service Center, the
entity's annual accounting period is an issue under consideration in the
examination of a partner's or shareholder's federal income tax return or
an issue under consideration by an area office or by a federal court with
respect to a partner's or shareholder's federal income tax return; or

(5) PRIOR CHANGE. A change to, or retention of, a natural business year
as described in section 4.01(2) of this revenue procedure if the
partnership, S corporation, electing S corporation, or PSC has changed its
annual accounting period at any time within the most recent 48-month
period ending with the last month of the requested taxable year. For this
purpose, the following changes are not considered prior changes in annual
accounting period:

(a) a change to a required taxable year or ownership taxable year;

(b) a change from a 52-53-week taxable year to a non-52-53-week taxable
year that ends with reference to the same calendar month, and vice versa;
or

(c) a change in accounting period by an S corporation, electing S
corporation, or PSC, in order to comply with the common taxable year
requirements of sections 1.1502-75(d)(3)(v) and 1.1502-76(a)(1).


.03 NONAUTOMATIC CHANGES. Any partnership, S corporation, electing S
corporation, or PSC that wants to adopt, change to, or retain an annual
accounting period that cannot do so automatically under this revenue
procedure (because the requested taxable year is not described in section
4.01, or because of a prior change as described in section 4.02(5)) or
pursuant to a provision in the Code, regulations, or other published
administrative procedures, must obtain the approval of the Commissioner.
See section 1.442-1(b) and Rev. Proc. 2002-39 for rules relating to
nonautomatic changes of annual accounting periods by partnerships, S
corporations, electing S corporations, and PSCs.


SECTION 5. DEFINITIONS

The following definitions apply solely for purposes of this revenue
procedure:

.01 TAXPAYER. The term "taxpayer" has the same meaning as the term
"person" as defined in section 7701(a)(1) (e.g., an individual, trust,
estate, partnership, association, or corporation) rather than the meaning
of the term "taxpayer" as defined in section 7701(a)(14) (any person
subject to tax).

.02 ELECTING S CORPORATIONS. "Electing S corporations" are corporations
attempting to make an S election for the short period described in section
5.09 of this revenue procedure. See Rev. Proc. 2002-37, 2002-22 I.R.B.
1030, superseding Rev. Proc. 2000-11, 2000-3 I.R.B. 309, for procedures
for automatic approval to change an annual accounting period by
corporations attempting to make an S election for the taxable year
immediately following the short period.

.03 REQUIRED TAXABLE YEAR. The "required taxable year" is the taxable
year determined under section 706(b) in the case of a partnership, section
1378 in the case of an S corporation or an electing S corporation, or
section 441(i) in the case of a PSC, without taking into account any
taxable year that is allowable by reason of a business purpose (including
a grandfathered fiscal year) or a section 444 election.

.04 PERMITTED TAXABLE YEAR. A "permitted taxable year" is the required
taxable year; a natural business year; the ownership taxable year; a
taxable year elected under section 444; a 52-53-week taxable year that
references the required taxable year, natural business year, ownership
taxable year, or a taxable year elected under section 444; or any other
taxable year for which the taxpayer establishes a business purpose to the
satisfaction of the Commissioner.

.05 NATURAL BUSINESS YEAR. A partnership, S corporation, electing S
corporation, or PSC establishes a "natural business year" under this
revenue procedure by satisfying the following "25-percent gross receipts
test":

(1) PRIOR THREE YEARS GROSS RECEIPTS.

(a) Gross receipts from sales and services for the most recent 12-month
period that ends with the last month of the requested annual accounting
period are totaled and then divided into the amount of gross receipts from
sales and services for the last 2 months of this 12-month period.

(b) The same computation as in (1)(a) above is made for the two
preceding 12-month periods ending with the last month of the requested
annual accounting period.


(2) NATURAL BUSINESS YEAR.

(a) Except as provided in (b) below, if each of the three results
described in (1) equals or exceeds 25 percent, then the requested annual
accounting period is deemed to be the taxpayer's natural business year.

(b) The taxpayer must determine whether any annual accounting period
other than the requested annual accounting period also meets the
25-percent test described in (2)(a). If one or more other annual
accounting periods produce higher averages of the three percentages
(rounded to 1/100 of a percent) described in (1) than the requested annual
accounting period, then the requested annual accounting period will not
qualify as the taxpayer's natural business year.

(3) SPECIAL RULES. (a) To apply the 25-percent gross receipts test for
any particular year, the taxpayer must compute its gross receipts under
the method of accounting used to prepare its federal income tax returns
for such taxable year.

(b) If a taxpayer has a predecessor organization and is continuing the
same business as its predecessor, the taxpayer must use the gross receipts
of its predecessor for purposes of computing the 25-percent gross receipts
test.

(c) If the taxpayer (including any predecessor organization) does not
have a 47-month period of gross receipts (36-month period for requested
taxable year plus additional 11-month period for comparing requested
taxable year with other potential taxable years), then it cannot establish
a natural business year under this revenue procedure.

(d) If the requested taxable year is a 52-53-week taxable year, the
calendar month ending nearest to the last day of the 52-53-week taxable
year is treated as the last month of the requested taxable year for
purposes of computing the 25-percent gross receipts test.


.06 OWNERSHIP TAXABLE YEAR. For an S corporation or electing S
corporation, an "ownership taxable year" is the taxable year (if any)
that, as of the first day of the first effective year, constitutes the
taxable year of one or more shareholders (including any shareholder that
concurrently changes to such taxable year) holding more than 50-percent of
the corporation's issued and outstanding shares of stock. For this
purpose, under principles similar to section 1.706-3T for determining the
taxable year of a partnership, a shareholder that is tax-exempt under
section 501(a) is disregarded if such shareholder is not subject to tax on
any income attributable to the S corporation. Tax-exempt shareholders are
not disregarded, however, if the S corporation is wholly-owned by such
tax-exempt entities. A shareholder in an S corporation or electing S
corporation that wants to concurrently change its taxable year must follow
the instructions generally applicable to taxpayers changing their taxable
years contained in section 1.442-1(b), Rev. Proc. 2002-39, or any other
applicable administrative procedure published by the Commissioner.

<<END RULING>>


.07 GRANDFATHERED FISCAL YEAR. A grandfathered fiscal year is a fiscal
year (other than a year that resulted in a three-month or less deferral of
income) that a partnership or an S corporation received permission to use
on or after July 1, 1974, by a letter ruling (i.e., not by automatic
approval).

.08 FIRST EFFECTIVE YEAR. The first effective year is the first taxable
year for which an adoption, change, or retention in annual accounting
period is effective. Thus, in the case of a change, the first effective
year is the short period required to effect the change. The first
effective year is also the first taxable year for complying with all the
terms and conditions set forth in this revenue procedure necessary to
effect the adoption, change, or retention in annual accounting period.

.09 SHORT PERIOD. In the case of a change in annual accounting period,
a taxpayer's short period is the period beginning with the day following
the close of the old taxable year and ending with the day preceding the
first day of the new taxable year.

.10 FIELD OFFICE, AREA OFFICE, DIRECTOR. The terms "field office,"
"area office," and "director" have the same meaning as those terms have in
Rev. Proc. 2002-1, 2002-1 I.R.B. 1 (or any successor).

.11 UNDER EXAMINATION.

(1) IN GENERAL.

(a) Except as provided in section 5.11(2) of this revenue procedure, an
examination of a taxpayer with respect to a federal income tax return
begins on the date the taxpayer is contacted in any manner by a
representative of the Service for the purpose of scheduling any type of
examination of the return. An examination ends:

(i) in a case in which the Service accepts the return as filed, on the
date of the "no change" letter sent to the taxpayer;

(ii) in a fully agreed case, on the earliest of the date the taxpayer
executes a waiver of restrictions on assessment or acceptance of
overassessment (for example, Form 870, 4549, or 4605), the date the
taxpayer makes a payment of tax that equals or exceeds the proposed
deficiency, or the date of the "closing" letter (for example, Letter
891(IN) or 987(DO)) sent to the taxpayer; or

(iii) in an unagreed or a partially agreed case, on the earliest of the
date the taxpayer (or its representative) is notified by an area officer
that the case has been referred to an area office from a field office, the
date the taxpayer files a petition in the Tax Court, the date on which the
period for filing a petition with the Tax Court expires, or the date of
the notice of claim disallowance.


(b) An examination does not end as a result of the early referral of an
issue to an area office under the provisions of Rev. Proc. 96-9, 1996-1
C.B. 575, or Rev. Proc. 99-28, 1999-2 C.B. 109.

(c) An examination resumes on the date the taxpayer (or its
representative) is notified by an appeals officer (or otherwise) that the
case has been referred to a field office for reconsideration.


(2) PARTNERSHIPS AND S CORPORATIONS SUBJECT TO TEFRA. For an entity
(including a limited liability company) treated as a partnership or S
corporation that is subject to the TEFRA unified audit and litigation
provisions (note that an S corporation is not subject to the TEFRA unified
audit and litigation provisions for taxable years beginning after December
31, 1996, see Small Business Job Protection Act of 1996, Pub. L. No.
104-188, section 1317(a), 110 Stat. 1755, 1787 (1996)), an examination
begins on the date that the notice of the beginning of an administrative
proceeding is sent or personally delivered to the Tax Matters Partner/Tax
Matters Person (TMP). An examination ends:

(a) in a case in which the Service accepts the partnership or S
corporation return as filed, on the date of the "no adjustments" letter or
the "no change" notice of final administrative adjustment sent to the TMP;

(b) in a case in which no formal notice is given, on the date on which
the period under section 6229 expires;

(c) in a fully agreed case, when all the partners or shareholders
execute a Form 870-P, 870-L, 870-S, or any variation thereof; or

(d) in an unagreed or a partially agreed case, on the earliest of the
date the TMP (or its representative) is notified by an appeals officer
that the case has been referred to an area office from a field office, the
date the TMP (or a partner, member, or shareholder) requests judicial
review, or the date on which the period for requesting judicial review
expires.


.12 ISSUE UNDER CONSIDERATION.

(1) DURING AN EXAMINATION. A taxpayer's annual accounting period is an
issue under consideration for the taxable years under examination if the
taxpayer receives written notification (for example, by examination plan,
information document request (IDR), or notification of proposed
adjustments or income tax examination changes) from the examining agent(s)
specifically citing the taxpayer's annual accounting period as an issue
under consideration. For example, a taxpayer's annual accounting period is
an issue under consideration as a result of an examination plan that
identifies the propriety of the taxpayer's annual accounting period as a
matter to be examined. The question of whether the taxpayer's annual
accounting period is an issue under consideration may be referred to the
national office as a request for technical advice under the provisions of
Rev. Proc. 2002-2, 2002-1 I.R.B. 82 (or any successor).

(2) BEFORE AN AREA OFFICE. A taxpayer's annual accounting period is an
issue under consideration for the taxable years before an area office if
the taxpayer's annual accounting period is included as an item of
adjustment in the examination report referred to the area office or is
specifically identified in writing to the taxpayer by the area office.

(3) BEFORE A FEDERAL COURT. A taxpayer's annual accounting period is an
issue under consideration for the taxable years before a federal court if
the taxpayer's annual accounting period is an item included in the
statutory notice of deficiency, the notice of claim disallowance, the
notice of final administrative adjustment, the pleadings (for example, the
petition, complaint, or answer) or amendments thereto, or is specifically
identified in writing to the taxpayer by the government counsel.


.13 PERSONAL SERVICE CORPORATION. For purposes of this revenue
procedure, a PSC does not include a corporation that has a required
taxable year under a provision of the Code other than section 441(i)
(e.g., a specified foreign corporation as defined in section 898(b)(1)).


SECTION 6. TERMS AND CONDITIONS

.01 IN GENERAL. An adoption, change, or retention in annual accounting
period filed under this revenue procedure must be made pursuant to the
terms and conditions provided in this revenue procedure.

.02 SHORT PERIOD TAX RETURN. The taxpayer generally must file a federal
income tax return for the short period required to effect a change by the
due date of that return, including extensions, in accordance with section
1.443-1(a). In the case of a PSC, the corporation's taxable income for the
short period must be annualized and the tax must be computed in accordance
with the provisions of section 443(b) and section 1.443-1(b). However, for
changes to (or from) a 52-53-week taxable year referencing the same month
as the current (or requested) taxable year, see special rules in section
1.441-2.

.03 SUBSEQUENT YEAR TAX RETURNS. Returns for subsequent taxable years
generally must be made on the basis of a full 12 months (or on a
52-53-week basis) ending on the last day of the requested taxable year,
unless the taxpayer secures the approval of the Commissioner to change
that taxable year.

.04 RECORD KEEPING/BOOK CONFORMITY. The books of the taxpayer must be
closed as of the last day of the first effective year. Thereafter, the
taxpayer must compute its income and keep its books and records (including
financial statements and reports to creditors) on the basis of the
requested taxable year, except that this requirement shall not apply (1)
to books and records maintained solely for foreign law purposes (e.g.,
foreign tax reporting purposes), or (2) if the requested taxable year is
either the taxpayer's required taxable year or ownership taxable year.

.05 CHANGES IN NATURAL BUSINESS YEAR. If a partnership, S corporation,
electing S corporation, or PSC changes to or retains a natural business
year under this revenue procedure and that year no longer qualifies as a
permitted taxable year, the taxpayer is using an impermissible annual
accounting period and should change to a permitted taxable year. Taxpayers
qualifying under section 4 of this revenue procedure may request automatic
approval for the change under the provisions of this revenue procedure.
Other taxpayers must request approval under Rev. Proc. 2002-39.

.06 CHANGES IN OWNERSHIP TAXABLE YEAR. An S corporation or electing S
corporation that adopts, changes to, or retains an ownership taxable year
under this revenue procedure must change to a permitted taxable year, or
request approval to retain its current taxable year, if, as of the first
day of any taxable year, its ownership taxable year changes. S
corporations qualifying under section 4 of this revenue procedure may
request automatic approval for the change or retention under the
provisions of this revenue procedure. Other taxpayers must request
approval under Rev. Proc. 2002-39.

.07 52-53-WEEK TAXABLE YEARS. If applicable, the taxpayer must comply
with section 1.441-2(e) (relating to the timing of taking items into
account in those cases where the taxable year of a pass-through entity or
PSC ends with reference to the same calendar month as one or more of its
partners, shareholders, or employee-owners).

.08 CREATION OF NET OPERATING LOSS OR CAPITAL LOSS. In the case of a
PSC changing to a natural business year, if the PSC generates a net
operating loss (NOL) or capital loss (CL) in the short period required to
effect the change in annual accounting period, the PSC may not carry the
NOL or CL back, but must carry it over in accordance with the provisions
of sections 172 and 1212, respectively, beginning with the first taxable
year after the short period. However, except as provided in section 280H
and the regulations thereunder, the short period NOL or CL is carried back
or carried over in accordance with sections 172 or 1212, respectively, if
it is either (a) $50,000 or less, or (b) results from a short period of 9
months or longer and is less than the NOL or CL for a full 12-month period
beginning with the first day of the short period.

.09 CREATION OF GENERAL BUSINESS CREDITS. In the case of a PSC changing
to a natural business year, if there is an unused general business credit
or any other unused credit generated in the short period, the PSC must
carry that unused credit forward. An unused credit from the short period
may not be carried back.


SECTION 7. GENERAL APPLICATION PROCEDURES

.01 APPROVAL. Approval is hereby granted to any partnership, S
corporation, electing S corporation, or PSC within the scope of this
revenue procedure to adopt, change, or retain its annual accounting
period, provided the taxpayer complies with all the applicable provisions
of this revenue procedure. Approval is granted beginning with the first
effective year. A partnership, S corporation, electing S corporation, or
PSC granted approval under this revenue procedure to adopt, change to, or
retain an annual accounting period other than its required year is deemed
to have established a business purpose for the adoption, change, or
retention to the satisfaction of the Commissioner.

.02 FILING REQUIREMENTS.

(1) WHERE TO FILE. A taxpayer within the scope of this revenue
procedure that wants to adopt, change, or retain its annual accounting
period under this revenue procedure must complete and file an application
(i.e., a current Form 1128 or Form 2553, Election by a Small Business
Corporation, in the case of an electing S corporation) with the Director,
Internal Revenue Service Center, Attention: ENTITY CONTROL, where the
taxpayer files its federal income tax return. No copies of Form 1128 (or
Form 2553) are required to be sent to the national office. The taxpayer
also must attach a copy of the Form 1128 (or Form 2553) to the federal
income tax return filed for the first effective year.

(2) WHEN TO FILE. The Form 1128 must be filed no earlier than the day
following the end of the first effective year and no later than the due
date (including extensions) for filing the federal income tax return for
the first effective year. For electing S corporations, the Form 2553 must
be filed when the election to be an S corporation is filed pursuant to
section 1362(b) and section 1.1362-6. Generally, such election must be
filed at any time during (a) the taxable year that immediately precedes
the taxable year for which the election is to be effective, or (b) the
taxable year for which the election is to be effective, provided the
election is made before the 16th day of the third month of the taxable
year.

(3) LABEL. In order to assist in the processing of the adoption,
change, or retention in annual accounting period, taxpayers should write
at the top of page 1 of the Form 1128 (Form 2553): "FILED UNDER REV. PROC.
2002-38."

(4) SIGNATURE REQUIREMENTS. In the case of a partnership, the Form 1128
must be signed on behalf of the partnership by a general partner. In the
case of a limited liability company that elects to be treated as a
partnership, the Form 1128 must be signed by a member-manager who has
personal knowledge of the facts. In all other cases, the Form 1128 (Form
2553) must be signed by an authorized corporate officer. If an agent is
authorized to represent the taxpayer before the Service, to receive the
original or a copy of correspondence concerning the application, or to
perform any other act(s) regarding the application on behalf of the
taxpayer, a power of attorney reflecting such authorization(s) should be
attached to the application. A taxpayer's representative without a power
of attorney to represent the taxpayer will not be given any information
about the application.

(5) NO USER FEE. A user fee is not required for applications filed
under this revenue procedure and, except as provided in section 9.01 of
this revenue procedure, the receipt of an application filed under this
revenue procedure may not be acknowledged.

(6) ADDITIONAL INFORMATION. In the case of a taxpayer changing to a
natural business year that satisfies the 25-percent gross receipts test
described in section 5.05 of this revenue procedure, the taxpayer must
supply the gross receipts for the most recent 47 months for itself (or any
predecessor) in compliance with the instructions to Form 1128 (or Form
2553).


.03 ADDITIONAL PROCEDURES IF UNDER EXAMINATION, BEFORE AN AREA OFFICE,
OR BEFORE A FEDERAL COURT.

(1) TAXPAYERS UNDER EXAMINATION.

(a) A taxpayer under examination may request approval to change or
retain its annual accounting period under this revenue procedure only if
the appropriate director consents to the change or retention. The director
will consent to the change or retention unless, in the opinion of the
director, the taxpayer's annual accounting period ordinarily would be
included as an item of adjustment in the year(s) for which the taxpayer is
under examination. For example, the director will consent to a change
where the taxpayer is using a permissible annual accounting period. The
director also will consent to a change from an impermissible annual
accounting period where the period became impermissible (e.g., due to a
change in ownership or a change in the taxpayer's business) subsequent to
the years under examination. The question of whether the taxpayer's annual
accounting period from which the taxpayer is changing is permissible or
became impermissible subsequent to the years under examination may be
referred to the national office as a request for technical advice under
the provisions of Rev. Proc. 2002-2.

(b) A taxpayer changing or retaining an annual accounting period under
this revenue procedure with the consent of the appropriate director must
attach to the application a statement from the director consenting to the
change or retention. The taxpayer must provide a copy of the application
to the director at the same time it files the application with the Service
Center. The application must contain the name(s) and telephone number(s)
of the examining agent(s).


(2) TAXPAYERS BEFORE AN AREA OFFICE. A taxpayer that is before an area
office must attach to the application a separate statement signed by the
taxpayer certifying that, to the best of the taxpayer's knowledge, the
taxpayer's annual accounting period is not an issue under consideration by
the area office. The taxpayer must provide a copy of the application to
the appeals officer at the same time it files the application with the
Service Center. The application must contain the name and telephone number
of the appeals officer.

(3) TAXPAYERS BEFORE A FEDERAL COURT. A taxpayer that is before a
federal court must attach to the application a separate statement signed
by the taxpayer certifying that, to the best of the taxpayer's knowledge,
the taxpayer's annual accounting period is not an issue under
consideration by the federal court. The taxpayer must provide a copy of
the application to the government counsel at the same time it files the
application with the Service Center. The application must contain the name
and telephone number of the government counsel.


SECTION 8. EFFECT OF APPROVAL

.01 AUDIT PROTECTION.

(1) IN GENERAL. Except as provided in section 8.01(2) of this revenue
procedure, a taxpayer that files an application in compliance with all the
applicable provisions of this revenue procedure will not be required by
the Service to change its annual accounting period for a taxable year
prior to the first effective year.

(2) EXCEPTIONS. The Service may change a taxpayer's annual accounting
period for a prior taxable year if:

(a) the taxpayer fails to implement the change;

(b) the taxpayer implements the change but does not comply with all the
applicable provisions of this revenue procedure; or

(c) there was a misstatement or omission of material facts.


.02 SUBSEQUENTLY REQUIRED CHANGES.

(1) IN GENERAL. A taxpayer that adopts, changes, or retains its annual
accounting period pursuant to this revenue procedure may be required to
subsequently change its annual accounting period for the following
reasons:

(a) the enactment of legislation;

(b) a decision of the United States Supreme Court;

(c) the issuance of temporary or final regulations;

(d) the issuance of a revenue ruling, revenue procedure, notice, or
other statement published in the Internal Revenue Bulletin;

(e) the issuance of written notice to the taxpayer that the change in
annual accounting period was not in compliance with all the applicable
provisions of this revenue procedure or is not in accord with the current
view of the Service; or

(f) a change in the material facts on which the approval was granted.


(2) RETROACTIVE CHANGE. Except in rare circumstances, if a taxpayer
that adopts, changes, or retains its annual accounting period under this
revenue procedure is subsequently required under section 8.02(1) of this
revenue procedure to change that annual accounting period, the required
change will not be applied retroactively, provided that:

(a) the taxpayer complied with the applicable provisions of this
revenue procedure;

(b) there has been no misstatement or omission of material facts;

(c) there has been no change in the material facts on which the
approval was based;

(d) there has been no change in the applicable law; and

(e) the taxpayer to which the approval was granted acted in good faith
in relying on the approval, and applying the change retroactively would be
to the taxpayer's detriment.


SECTION 9. REVIEW OF APPLICATION

.01 SERVICE CENTER REVIEW. A Service Center may deny an adoption,
change, or retention of an annual accounting period under this revenue
procedure only if (1) the Form 1128 (or Form 2553) is not filed timely, or
(2) the taxpayer fails to meet the scope or any term and condition of this
revenue procedure. If the application is denied, the Service Center will
return the application with an explanation for the denial. In the case of
a denial of an accounting period request filed on Form 2553, the
corporation will be required to use the calendar year or, if applicable,
make a section 444 election, if it chooses to be an S corporation.

.02 REVIEW OF DIRECTOR. The appropriate director may ascertain if the
adoption, change, or retention of annual accounting period was made in
compliance with all the applicable provisions of this revenue procedure.
Taxpayers adopting, changing, or retaining their annual accounting period
pursuant to this revenue procedure without complying with all the
provisions (including the terms and conditions) of this revenue procedure
ordinarily will be deemed to have initiated the adoption, change, or
retention of annual accounting period without the approval of the
Commissioner. Upon examination, a taxpayer that has initiated an
unauthorized adoption, change, or retention of annual accounting period
may be denied the adoption, change, or retention. For example, the
taxpayer may be required to recompute its taxable income or loss in
accordance with its former (or required, if applicable) taxable year.


SECTION 10. EFFECTIVE DATE AND TRANSITION RULE

.01 EFFECTIVE DATE. This revenue procedure generally is effective for
adoptions, changes, or retentions of annual accounting periods for which
the first effective year ends on or after May 10, 2002. However, if the
time period for filing Form 1128 (or Form 2553) with respect to a taxable
year set forth in section 7.02(2) of this revenue procedure has not yet
expired, a taxpayer within the scope of this revenue procedure may elect
early application of the revenue procedure by providing the notification
set forth in section 7.02(3) on the top of page 1 of Form 1128 (or Form
2553) and by satisfying the other procedural requirements of section 7.

.02 TRANSITION RULE. If a taxpayer within the scope of this revenue
procedure filed an application with the national office and the
application is pending with the national office on May 10, 2002, the
taxpayer may obtain approval under this revenue procedure. However, the
national office will process the application in accordance with the
authority under which it was filed, unless by the later of June 25, 2002,
or the issuance of the letter ruling granting or denying approval for the
adoption, change, or retention, the taxpayer notifies the national office
that it wants to use this revenue procedure. If the taxpayer timely
notifies the national office that it wants to use this revenue procedure,
the national office will require the taxpayer to make appropriate
modifications to the application to comply with the applicable provisions
of this revenue procedure. In addition, any user fee that was submitted
with the application will be refunded to the taxpayer.


SECTION 11. EFFECT ON OTHER DOCUMENTS

Rev. Proc. 87-32 is clarified, modified, amplified, and superseded.


SECTION 12. PAPERWORK REDUCTION ACT
The collections of information contained in this revenue procedure have
been reviewed and approved by the Office of Management and Budget in
accordance with the Paperwork Reduction Act (44 U.S.C. 3507) under control
number 1545-1786. An agency may not conduct or sponsor, and a person is
not required to respond to, a collection of information unless the
collection of information displays a valid OMB control number.

The collections of information in this revenue procedure are found in
sections 7 and 10. The information in section 7 is required in order to
determine whether the taxpayer properly obtained automatic approval to
adopt, change, or retain its annual accounting period. The information in
section 10 is required in order to allow a taxpayer to apply the
provisions of this revenue procedure to a pending application. The likely
respondents are the following: partnerships, S corporations, electing S
corporations, and PSCs.

The estimated total annual reporting burden for the requirements
contained in section 7 of this revenue procedure is reflected in the
burden estimates for Forms 1128 and 2553. The estimated total annual
reporting burden for the requirement contained in section 10 of this
revenue procedure is 50 hours: the estimated annual burden per respondent
is 30 minutes; the estimated number of respondents is 100; and the
estimated annual frequency of response is once.

Books or records relating to a collection of information must be
retained as long as their contents may become material in the
administration of any internal revenue law. Generally tax returns and tax
return information are confidential, as required by 26 U.S.C. 6103.


DRAFTING INFORMATION

The principal authors of this revenue procedure are Michael F. Schmit
and Roy A. Hirschhorn of the Office of Associate Chief Counsel (Income Tax
and Accounting). For further information regarding this revenue procedure,
contact Mr. Schmit or Mr. Hirschhorn at (202) 622-4960 (not a toll-free
call).

<<END RULING>>



 

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