For Wizard Kim - TM

Tax Memo Assignment (Solution)

Background

Your Texas Band, Inc., is a calendar year corporation. The corporation is a Texas corporation that is based in Dallas, Texas. The band recently sold tickets ($1,000,000) for concerts scheduled in the United States for next year and the following year. For financial statement purposes, Your Texas Band will recognize the income from the ticket sales when it performs the concerts. For tax purposes, the corporation uses the accrual method and would prefer to defer the income from the ticket sales until after the concerts are performed. This is the first time that it has sold tickets one or two years in advance. Their manager, Russell Crowe has asked your advice. Write a memo to Mr. Crowe explaining your findings.

Facts

• Your Texas Band, Inc., is a calendar year corporation.

• The corporation is a Texas corporation.

• The band is based in Dallas, Texas.

• The band recently sold tickets ($1,000,000) for concerts scheduled in the United States for next year and the following year.

• For financial statement purposes, your Texas Band will recognize the income from the ticket sales when it performs the concerts.

• For income tax purposes, the corporation uses the accrual method.

• The band has never previously sold tickets one or two years in advance.

Issue

Should Your Texas Band include the income from the advance sales of tickets for concerts scheduled in future years?

Relevant Authorities

• IRC Sections 451 and 446

• Rev. Proc. 2004-34, 2004-1 CB 991.

• Artnell Co. v. Comm. (7 Cir., 1968), 68-2 USTC par. 9593, rev’g and rem’g 48 TC 411 (1967).

• Tampa Bay Devil Rays, Ltd., 84 TCM 394 (2002).

• Schlude v. Comm. (S. Ct., 1963), 63-1 USTC par. 9284, aff’g, rev’g and rem’g (8 Cir., 1962), 62-1 USTC par. 9137, aff’g 32 TC 1271 (1959).

• American Automobile Association v. U.S. (367 US 687), 61-2 USTC par. 9517, aff’g (Ct. Cl., 1960), 60-1 USTC par. 9301.

• Auto. Club of Michigan v. Comm. (353 US 180), 57-1 USTC par. 9593, aff’g (6 Cir., 1956), 56-1 USTC par. 9296, aff’g 20 TC 1033 (1953).

 

Conclusion

Your Texas Band can defer recognition income form the ticket sales until the amounts are earned (i.e., until the concerts are performed). Thus, the ticket sale income for the concerts will be recognized in the year of the performance.

Analysis

The general rule for prepaid service income is to recognize it in the year of receipt. However, Rev. Proc. 2004-34 allows a one-year deferral for prepaid services. Nonetheless, there is judicial authority (Artnell Co. and Tampa Bay Devil Rays, Ltd.) that indicates that deferring the income until actual performance more clearly reflects income in this particular setting. The key fact here is that the taxpayer knows exactly when the performance will take place. If, for example, the prepaid services were for "services on demand" like dance lessons, consulting services, etc., the most advantageous tax treatment would be a one-year deferral under Rev. Proc. 2004-34.

There should be detailed analysis for each authority.