Introduction

Each taxpayer (business or individual) must figure taxable income on an annual accounting period called a tax year. The calendar year is the most common tax year. Other tax years are a fiscal year and a short tax year.

Each taxpayer must also use a consistent accounting method, which is a set of rules for determining how and when to report income and expenses. The most commonly used accounting methods are the cash method and an accrual method. Under the cash method, you generally report income in the tax year you receive it and deduct expenses in the tax year you pay them. Under an accrual method, you generally report income in the tax year you earn it, regardless of when payment is received, and deduct expenses in the tax year you incur them, regardless of when payment is made.

This publication explains some of the rules for accounting periods and accounting methods. In many cases, however, you may have to refer to the cited sources for a fuller explanation of the topic. Section references are to the Internal Revenue Code and regulation references are to the Income Tax Regulations.

This publication is not intended as a guide to general business and tax accounting rules.

Comments and suggestions.   We welcome your comments about this publication and your suggestions for future editions.

You can e-mail us while visiting our web site at www.irs.gov/help/email2.html.

You can write to us at the following address:

Internal Revenue Service
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We respond to many letters by telephone. Therefore, it would be helpful if you would include your daytime phone number, including the area code, in your correspondence.

Useful Items You may want to see:

Publication

• 537   Installment Sales
• 541   Partnerships
• 542   Corporations

Form (and Instructions)

• 1128   Application To Adopt, Change, or Retain a Tax Year
• 3115   Application for Change in Accounting Method

See How To Get Tax Help near the end of this publication for information about getting these publications and forms.

User Fees

The IRS charges a user fee for certain requests to change an accounting period or method, certain tax rulings, and determination letters. The fee is reduced in certain situations and for certain requests, such as a request for substantially identical rulings for related entities. No fee is charged for changes permitted to be made by a published automatic change revenue procedure.

See Revenue Procedure 2001-1, 2001-1 IRB, or its successor, for more information.

Accounting Periods

You must figure taxable income on the basis of a tax year. A tax year is an annual accounting period for keeping records and reporting income and expenses. The tax years you can use are:

1. A calendar year.
2. A fiscal year.

You adopt a tax year when you file your first income tax return. You must adopt your first tax year by the due date (not including extensions) for filing a return for that year.

The due date for individual and partnership returns is the 15th day of the 4th month after the end of the tax year. Individuals include sole proprietors, partners, and S corporation shareholders. The due date for filing returns for corporations and S corporations is the 15th day of the 3rd month after the end of the tax year. If the 15th day of the month falls on a Saturday, Sunday, or legal holiday, the due date is the next business day.

This section discusses:

1. A calendar year.
2. A fiscal year (including a period of 52 or 53 weeks).
3. A short tax year.
4. An improper tax year.
5. A change in tax year.
6. Restrictions that apply to the accounting period of a partnership, S corporation, or personal service corporation.
7. Special situations that apply to corporations.

Calendar Year

A calendar year is 12 consecutive months beginning January 1 and ending December 31.

If you adopt the calendar year, you must maintain your books and records and report your income and expenses from January 1 through December 31 of each year.

If you file your first tax return using the calendar tax year and you later begin business as a sole proprietor, become a partner in a partnership, or become a shareholder in an S corporation, you must continue to use the calendar year unless you get IRS approval to change it. See Change in Tax Year, later.

Generally, anyone can adopt the calendar year. However, if any of the following apply, you must adopt the calendar year.

1. You do not keep adequate records.
2. You have no annual accounting period.
3. Your present tax year does not qualify as a fiscal year.

Fiscal Year

A fiscal year is 12 consecutive months ending on the last day of any month except December. A 52-53 week tax year is a fiscal year that varies from 52 to 53 weeks but may not end on the last day of a month.

If you adopt a fiscal year, you must maintain your books and records and report your income and expenses using the same tax year.

52-53 Week Tax Year

You can elect to use a 52-53 week tax year if you keep your books and records and report your income and expenses on that basis. If you make this election, your tax year will be 52 or 53 weeks long and always end on the same day of the week. You can choose to have your tax year end on the same day of the week that:

1. Last occurs in a particular month, or
2. Occurs nearest to the last day of a particular calendar month.

For example, if you elect a tax year that always ends on the last Monday in March, your 1999 tax year will end on March 27, 2000. If you elect a tax year ending on the Thursday nearest to the end of April, your 1999 tax year will end on April 27, 2000.

Election.   To make the election, attach a statement with the following information to your tax return for the 52-53 week tax year.

1. The month in which the new 52-53 week tax year ends.
2. The day of the week on which the tax year always ends.
3. The date the tax year ends. It can be either of the following dates on which the chosen day:
   1. Last occurs in the month in (1), above, or
   2. Occurs nearest to the last day of the month in (1) above.

When you figure depreciation or amortization, a 52-53 week tax year is generally considered a year of 12 calendar months.

To determine an effective date (or apply provisions of any law) expressed in terms of tax years beginning, including, or ending on the first or last day of a specified calendar month, a 52-53 week tax year is considered to:

1. Begin on the first day of the calendar month beginning nearest to the first day of the 52-53 week tax year, and
2. End on the last day of the calendar month ending nearest to the last day of the 52-53 week tax year.

Example.   Assume a tax provision applies to tax years beginning on or after July 1, 2001. For this purpose, a 52-53 week tax year beginning on June 24, 2001, is treated as beginning on July 1, 2001.

Change to or from 52-53 week tax year.   Under certain circumstances, you can change to a 52-53 week tax year without IRS approval. However, in other cases, you must get approval before changing to or from a 52-53 week tax year.

Approval not required.   You can change to a 52-53 week tax year without IRS approval as long as the day chosen for the end of the 52-53 week tax year occurs in the same calendar month in which your present tax year ends. You must attach the statement explained in Election, earlier, to the tax return for the year for which the election is made.

Example.   You do not need IRS approval to change from a calendar tax year to a 52-53 week tax year ending on the Friday closest to December 31. You make the election by attaching the required statement to your tax return for the year of the change.

Approval required.   You must get IRS approval to change your tax year to a 52-53 week tax year that ends in a calendar month different from the month in which your present tax year ends. For example, you must get IRS approval to change from a calendar year to a 52-53 week tax year ending on the Saturday nearest the end of November.

You must also get approval to change from a 52-53 week tax year to any other tax year.

See Change in Tax Year, later, for information on getting IRS approval.

Short Tax Year

A short tax year is a tax year of less than 12 months. A short period tax return may be required when you (as a taxable entity):

1. Are not in existence for an entire tax year, or
2. Change your accounting period.

Tax on a short period tax return is figured differently for each situation.

Not in Existence Entire Year

Even if you (a taxable entity) were not in existence for the entire year, a tax return is required for the time you were in existence. Requirements for filing the return and figuring the tax are generally the same as the requirements for a return for a full tax year (12 months) ending on the last day of the short tax year.

Example 1.   Corporation X was organized on July 1, 2000. It elected the calendar year as its tax year and its first tax return was due March 16, 2001. This short period return will cover the period from July 1, 2000, through December 31, 2000.

Example 2.   A calendar year corporation dissolved on July 23, 2001. Its final return is due by October 15, 2001, and it will cover the short period from January 1, 2001, to July 23, 2001.

Example 3.   Partnership YZ was formed on September 4, 2000, and elected to use a fiscal year ending November 30. Partnership YZ must file its first tax return by March 15, 2001. It will cover the short period from September 4, 2000, to November 30, 2000.

Death of individual.   When an individual dies, a tax return must be filed for the decedent by the 15th day of the 4th month after the close of the individual's regular tax year. The decedent's final return will be a short period tax return unless he or she dies on the last day of the regular tax year.

Example.   Agnes Green was a single, calendar year taxpayer. She died on March 6, 2001. Her final tax return must be filed by April 15, 2002. It will cover the short period from January 1, 2001, to March 6, 2001.

Figuring Tax for Short Year

If the IRS approves a change in your tax year or you are required to change your tax year, you must figure the tax and file your return for the short tax period. The short tax period begins on the first day after the close of your old tax year and ends on the day before the first day of your new tax year.

You figure tax for a short year under the general rule, explained next. You may then be able to use a relief procedure, explained later, and claim a refund of part of the tax you paid.

General rule.   Income tax for a short tax year is figured on an annual basis. However, self-employment tax is figured on the actual self-employment income for the short period.

Individuals.   An individual must figure income tax for the short tax year as follows.

1. Determine your adjusted gross income for the short tax year and then subtract your actual itemized deductions for the short tax year. (You must itemize deductions when you file a short period tax return.)
2. Multiply the dollar amount of your exemptions by the number of months in the short tax year and divide the result by 12.
3. Subtract the amount in (2) from the amount in (1). This is your modified taxable income.
4. Multiply the modified taxable income in (3) by 12, then divide the result by the number of months in the short tax year. This is your annualized income.
5. Figure the total tax on your annualized income using the appropriate tax rate schedule.
6. Multiply the total tax by the number of months in the short tax year and divide the result by 12. This is your tax for the short tax year.

Example.   Mike and Sara Smith have an adjusted gross income of $48,000 for their short tax year. Their itemized deductions for January 1 through September 30 total $12,400 and they can claim exemptions for themselves, and their two children. Each exemption is $2,800. They figure the tax on their joint return for that period as follows.

1. $48,000 - $12,400 = $35,600
2. $2,800 × 4 × 9/12 = $8,400
3. $35,600 - $8,400 = $27,200 (modified taxable income)
4. $27,200 × 12/9 = $36,267 (annualized income)
5. Tax on $36,267 = $5,441 (from 2000 tax rate schedule)
6. $5,441 × 9/12 = $4,081 (tax for short tax year)

Corporations.   A corporation figures tax for the short tax year under the general rule described earlier for individuals except there is no adjustment for personal exemptions.

Example.   Because a calendar year corporation changed its tax year, it must file a short period tax return for the 6-month period ending June 30, 2000. For the short tax year, it had income of $40,000 and no deductions. The corporation's annualized income is $80,000 ($40,000 × 12/6). The tax on $80,000 is $15,450. The tax for the short tax year is $7,725 ($15,450 × 6/12).

52-53 week tax year.   If you change the month in which your 52-53 tax year ends, you must file a return for the short tax year if it covers more than 6 but fewer than 359 days.

If the short period created by the change is 359 days or more, treat it as a full tax year. If the short period created is 6 days or fewer, it is not a separate tax year. Include it as part of the following year.

For example, if you use a calendar year and the IRS approves your change to a 52-53 week tax year ending on the Monday closest to September 30, you must file a return for the short period from January 1 to September 30.

Figure the tax for the short tax year as shown previously, except that you prorate on a daily basis, rather than monthly. Use 365 days (regardless of the number of days in the calendar year) instead of 12 months and the number of days in the short tax year instead of the number of months.

Relief procedure.   Individuals and corporations can use a relief procedure to figure the tax for the short tax year. It may result in less tax. Under this procedure, the tax is figured by two separate methods. If the tax figured under both methods is less than the tax figured under the general rule, you can file a claim for a refund of part of the tax you paid. For more information, see section 443(b)(2).

Alternative minimum tax.   To figure the alternative minimum tax (AMT) due for a short tax year:

1. Figure the annualized alternative minimum taxable income (AMTI) for the short tax period by doing the following.
   1. Multiply the AMTI by 12.
   2. Divide the result by the number of months in the short tax year.
2. Multiply the annualized AMTI by the appropriate rate of tax under section 55(b)(1). The result is the annualized AMT.
3. Multiply the annualized AMT by the number of months in the short tax year and divide the result by 12.

For information on the alternative minimum tax for individuals, see the instructions for Form 6251. For information on the alternative minimum tax for corporations, see Publication 542, or the instructions to Form 4626, Alternative Minimum Tax Corporations.

Tax withheld from wages.   You can take a credit against your income tax liability for federal income tax withheld from your wages. Federal income tax is withheld on a calendar year basis. The amount withheld in any calendar year is allowed as a credit for the tax year beginning in the calendar year.

Improper Tax Year

A calendar year is a tax year of 12 months that ends on December 31 and a fiscal year is a tax year of 12 months that ends on the last day of any month other than December. A 52-53 week tax year is also a fiscal year, but may not end on the last day of a month. If you begin business operations on a day other than the first day of a calendar month and adopt a tax year of exactly 12 months from the date operations began, you will have adopted an improper tax year. You do not meet the requirements for a calendar or fiscal tax year.

To change to a proper tax year, you must do one of the following.

1. File an amended income tax return based on a calendar year, if you meet the requirements of Revenue Procedure 85-15 in Cumulative Bulletin 1985-1.

   Attach a completed Form 1128 to the amended tax return. Write FILED UNDER REV. PROC. 85-15 at the top of Form 1128 and file the forms with the Internal Revenue Service Center where you filed your original return.

2. Request IRS approval to change to a tax year other than a calendar year.

Change in Tax Year

You must, with certain exceptions, get IRS approval to change your tax year. File a current Form 1128 by the 15th day of the 2nd calendar month after the close of the short tax year to get IRS approval. (The short tax year begins on the first day after the end of your present tax year and ends on the day before the first day of your new tax year.) You must include the correct user fee, if any, with Form 1128. See User fees at the beginning of this publication.

Example.   Steve Adams, a sole proprietor, files his return using a calendar year. For business purposes, he wants to change his tax year to a fiscal year ending June 30. Steve will have a short tax year for the period from January 1 to June 30. He must file Form 1128 by August 15, the 15th day of the 2nd calendar month after the close of the short tax year.

A Form 1128 received within 90 days after the due date may qualify for an extension and be considered timely filed. For more information, see the form instructions and Revenue Procedure 2001-1, in Internal Revenue Bulletin No. 2001-1 (or any successor).

Your application must contain all requested information. Do not change your tax year until the IRS has approved your request.

If your application is approved, you must file an income tax return for the short period. There are special rules for figuring tax when you file a short period return because you changed your tax year. See Figuring Tax for Short Year, earlier.

Husband and wife.   A husband and wife who have different tax years cannot file a joint return. However, there is an exception to this rule if their tax years begin on the same date and end on different dates because of the death of either or both. If a husband and wife want to use the same tax year so they can file a joint return, the method of changing a tax year depends on whether they are newly married.

Newlyweds.   A newly married husband and wife with different tax years who wish to file a joint return can change the tax year of one spouse without first getting IRS approval. They can file a joint return for the first tax year ending after the date of marriage if both of the following conditions are met.

1. The due date for filing the required separate short period tax return of the spouse changing tax years falls on or after the date of the marriage. The due date for the short period tax return is the 15th day of the 4th month following the end of the short tax year.
2. The spouse changing tax years files a timely short period tax return. It must include a statement that the tax year is being changed under section 1.442-1(e) of the regulations.

If the due date for filing the required short period tax return passed before the date the couple marries, they cannot file a joint return until the end of the second tax year after the date of marriage. They can file a joint return for the second tax year only if the spouse changing his or her tax year files a timely short period tax return.

Example.   John and Jane were married on July 30, 2000. John filed his return for the fiscal year ending June 30, 2000. Jane uses the calendar year, but wants to change to John's fiscal year so they can file a joint return. If Jane files a separate return by October 16, 2000, for the short period January 1, 2000, through June 30, 2000, she will have changed her accounting period to a fiscal year ending June 30. Then she and John can file a joint return for their tax year ending June 30, 2001.

Spouses other than newlyweds.   A spouse who does not meet the earlier conditions must get IRS approval to change to the other spouse's tax year in order to file a joint return. Even though there is no substantial business purpose for requesting the change, approval may be granted in certain cases.

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