End of year constructive receipt question

Ed Zollars and I beat constructive receipt sensely some years ago. Most, if not all, Tax Court cases involve taxpayers trying to claim constructive receipt in a prior year which is closed for audit purposes.

Given you are on a cash basis, you have income upon actual receipt. My suggestion is to run the numbers to determine if claiming it as 2006 income has an adverse effect upon you. If there is no adverse effect, declare it as 2006 income and avoid any hassle.

If it does have an adverse, include the 1099 in your 2006 and make an adjustment to your gross income for the amount. It would be prudent to paper file such a return. Save the envelope and be prepared to defend your position.

When I was self-employed, I often submitted invoices for all of December (and sometimes November) on the last business day of December so I would not get a 1099 for the current.

And then there was a systems contractor who met me at the client at about 10:30 on New Year's Eve, asked for my invoice, and wrote me a check for about $7,000 on the spot. I had constructive receipt whether I liked it or not!

Dick

My understanding is the rule is that if it was postmarked in December, it was constructively received in the tax year containing December. As for how you would handle a mismatach between 1099 and true contstructive receipts, listing it as an "other" expense seem squirrely. I'd just not include the amount in total revenues, and attach a note to the return saying that X number of dollars reported on a given 1099 was not received until 2007. Steve

Yes, Rich, your beard might need trimming though :^)

That's a good method.

Or back it out as Returns & Allowances, second choice.

Or not report it and state your reasoning on Form 8275,m which will not be read before the CP2000 gets generated, but which can be used after that :-( Or accept the income for 2006.

I vote for not having constructive receipt.

__ Art Kamlet ArtKamlet @ AOL.com Columbus OH K2PZH

I haven't researched this point. But my guess is that it would be considered received in 2006, in part because it's easier to draw the line that way, and also that by saying

2007 under these circumstances it could open up a can of worms in other cases. Stu

The contrived question is the easy one. The taxpayer includes the amount of the check in income for tax year containing December. Re the first question, the taxpayer includes the amount of the check in income for the tax year containing January. If correct revenue on Schedule C will be equal to or greater than the total shown on 1099s (correct and incorrect), then just report the correct total revenue this year and next year. If the 1099s total exceeds correct revenue for the current year, subtract it somewhere that seems reasonable to you and press on.

I've heard some people advocate making such an entry to "back it out". But no need to do that. Gross receipts will almost never total 1099's received, so as long as gross receipts are more than total of 1099's, and they usually are, do nothing.

Let me illustrate. One year I suggested to a client as I handed him his statement middle of December that he write me a check about December 30th and put it in the mail to me. It's obvious what I was thinking there. So sure enough, he waited till the 30th, wrote out the check, and since he was coming to town anyway, stopped by and dropped it in my mail box, where I found it next day. That was a Sunday, but I had it in my possession, hence income that year. Oh well, we tried. ChEAr$, Harlan Lunsford, EA n LA

As to the first question, most likely the recipient should not be treated as having constructive receipt of the check in 2006. See, e.g., Treas. Reg. sec. 1.451-2(b)(corporation that declares dividends payable on Dec. 31, and follows usual practice of mailing dividend checks so that shareholders do not receive them until January - such dividends are not considered to have been constructively received in December). As a result, the amount should not be treated as income for 2006 or reported as such; instead, the taxpayer should put a note on the return beside the line item for reporting that income stating that the reader should see the attached statement. The attached statement should recite that the taxpayer did not receive the payment reflected in the Form 1099 filed by so-and-so and issued to the taxpayer until after the close of the taxable year, that such payment was received through the mails, was posted on DATE1 and received by taxpayer on DATE2, and that therefore, pursuant to Section 451 and Treas. Reg. Sec. 1.451-2, the taxpayer did not have actual or constructive receipt of such payment for the tax year 2006. Attach a copy of the Form

1099 to the statement, but clearly mark it as a copy to be used for informational purposes only. For 2007, the item of income is reported, and another statement is attached to the 2007 return indicating the taxpayer's position on the proper treatment of the item (as above), and including the copy of the Form 1099 received from the payor that is supposed to accompany the return. As to the second question, no. The issue of depositing the check in an ATM is a red-herring because, even if the taxpayer deposited the check in an ATM, he could get access to no more than $100 of the funds immediately. As a result, it is more likely that a court would conclude that the taxpayer did not have unfettered control over the funds, that they were not available for his use, and that therefore there was no constructive receipt. Of course, given that the taxpayer could, by depositing the check in an ATM on December 31, get access to up to $100 of the funds immediately, the technically persnickety answer is, the taxpayer has constructive receipt of $100 of the payment on December 31, 2006, and does not have actual or constructive receipt of the remainder until 2007. However, if you just stay home and enjoy the holidays, I rather doubt if the IRS is going to audit you or assess deficiencies against you if you just report the entire amount as received for 2007.

I think you're right on on the second scenario: that is, the fact that you could in theory sign the check over to someone for cash immediately is probably why the rule is that once you receive the check, you are deemed to have what is a cash equivalent until proven otherwise. Regarding the first scenario, someone please correct me if I'm wrong, but I believe if you have not received a check, then it is generally not taxable income. I say generally because I think perhaps technically you can't tell someone to hold off paying you after you've done work simply to avoid paying taxes. However, I may be completely wrong, so don't take my word for it. It's just my hunch, and my hunches can often be wrong. Someone else will likely know the answer with more certainty. Actually, let me refine my hunch: I don't think you can reject a payment someone actually gives you for services before Dec 31 for purposes of avoiding reporting it, but I think you could set up a payment date that both of you agree upon and that date could be Jan 1. Then, that would be ok. Again, could be wrong.

*LOL*

Yes, I've found that sometimes I should have explained things to clients a little more clearly than I did. Stu

balance snipped......

Where did you hear that? Remember the law of agency. the US Postal service is the agent of the mailor, hence the mailee doesn't have income until his agent delivers the money. Holiday ChEAr$, Harlan Lunsford, EA n LA

I take responsibility for having made up those brand new English words.

Well Bill, in the real world (grin) don't worry about reported receipts having to match 1099's, because they don't. Only if a proprietor has only one payor might one endeavor to explain the discrepancy with the return. Most schedule c's, once processed, never see the light of day again. And if drawn for audit, the classifier will probably never notice anyway. And even then if selected for actual audit, they are because of other factors, mostly expenses in in relation to revenue. Holiday ChEAr$, Harlan

First, I would say that you should not be reporting your income based on 1099s. In the majority of businesses, total income will be greater that the sum of all 1099s received. So, if you are keeping the proper records of income, you use that number and ignore the 1099. In the rare instance when the 1099s add up to more than the recorded income, I would still ignore the 1099. Keep the envelope and deposit slip to prove that you deposited the money in 2007, should IRS ever ask. I once had a client who won some $35,000 on Jeopardy. The show was taped in August, broadcast in September, and his winnings mailed to him in a check dated 12/24. However, the envelope the check came in had a postmark of 1/4 of the following year. We reported the winnings in the subsequent year. Later, when IRS issued a CP2000, we sent them a copy of the envelope and heard no more. Lanny K. Williams, CPA Nawarat, Williams & Co., Ltd. Income Tax Services for Expatriate Americans

snip

I NEVER attach statements like this to clients' returns. I've never known the IRS to read such statements. When the return is filed, the data entry clerk ignores such documents and then files the return. If selected for examination, the classifier is probably looking at a computer facsimile of the return and doesn't see the statement. Since 1099 amounts seldom equal the actual income for a business, most Schedule C filers should be using their records, anyway! If you have the required records, you have no concern with an audit. Lanny K. Williams, CPA Nawarat, Williams & Co., Ltd. Income Tax Services for Expatriate Americans

What we need is a definition of constructive receipt! That can be found Treas. Reg. (26 C.F.R.) § 1.451-2(a).

"Income although not actually reduced to a taxpayer's possession is constructively received by him in the taxable year during which it is credited to his account, set apart for him, or otherwise made available so that he may draw upon it at any time, or so that he could have drawn upon it during the taxable year if notice of intention to withdraw had been given. However, income is not constructively received if the taxpayer's control of its receipt is subject to substantial limitations or restrictions."

A check not received until after midnight on the first day of the New Year is not constructively received in the prior tax year because it is NOT "made available so that he may draw upon it at any time".

I am going to concede a point to Ed Zollars on lottery winnings. A jackpot prize winner who has six months to claim the winners and times it into the next tax year on the claim that they couldn't find the ticket is SOL.

Dick

Normally the law uses what is known as the mailbox rule - something is considered delivered when it is dropped in the mailbox. But for cash basis taxpayers I don't think that applies to the receipt of taxable income. Stu

Since you knew that was coming (at least when he asked for the invoice), what if you'd handed him the invoice along with a SASE and asked him to mail you the check? Seth

Moderator: I did not expect it. I did say "You could have mailed it".

Why did you check your mailbox on a Sunday? (Suppose you were away for a week and didn't check it until Jan. 4, but the client said he put it there on December 30. Does it matter when he told you that?) Seth

Well, it's like this: I DID explain it to him. But he forgot.

C$, H

But if I'm holding a winning ticket, I _can't_ "draw upon it at any time". At best, I can draw upon it at any time that the Lottery Office is open.

(What happens if someone has a winning ticket and doesn't cash it, and it expires? Is he still on the hook for income tax on the money he now can't get?)

Seth