Sunnyland - Tax Application for Long-Term Contracts
ISSUES
Can Sunnyland maintain their stance of accounting for long-term contracts using the completed contract method in order to defer income and costs based on the use and 95% test under Treas. Reg. §1.460-1(c)(3)(i)?
REASONING & ANALYSIS
IRC §460(f)(1) states that contracts for the building or construction of property are considered long-term contracts when not completed within the taxable year that the contract is initiated. Sunnyland, the taxpayer, builds and develops large, planned residential communities. Given the complexity of such projects, contracts typically take more than a year to complete.
IRC §460(e)(1)(a) provides an exception from using the percentage of completion method of accounting for any home construction contract, enabling the taxpayer to use the completed contract method of accounting.
Treas. Reg. §1.460-1(c)(3)(i) gives guidance for deeming a contract complete as soon as it satisfies one of two tests. As cited in Treas. Reg. §1.460-1(c)(3)(i)(A), the first test states that a contract is complete when the customer can use the subject matter of a contract for its intended purpose (except testing) and the taxpayer has incurred at least 95% of all allocable costs related to the contract subject matter. Under the second test, Treas. Reg. §1.460-1(c)(3)(i)(B) says the contract is complete when final completion and acceptance of the contract subject matter has occurred, stipulating that taxpayer must consider all relevant facts and circumstances, as cited in Treas. Reg. §1.460-1(c)(3)(iv)(A). Treas. Reg. §1.460-1(c)(3)(ii) adds that the contract completion date is determined without consideration of the use or completion and acceptance of secondary items related to the subject matter of a contract.
Treas. Reg. §1.460-3(b)(2)(iii) clarifies that the subject matter of a home construction contract includes the total, allocable costs of constructing the homes, developing the real property associated with the dwelling units and making common improvements such as roads, sewers and other amenities. Sunnyland’s planned residential community contracts