Accounting methods that can change the timing of tax

Two companies with the same revenue and expenses can report different taxable income in the same year because of their accounting methods. Methods rarely change how much income is ultimately taxed, but they change when it is taxed, and that timing affects cash.

Methods available to smaller companies

A business with average annual gross receipts of $32 million or less over the prior three years (the 2026 threshold, indexed for inflation) is a small business taxpayer. That status opens several simplifications:

• Using the cash method, even with inventory.
• Treating inventory as non-incidental materials and supplies, or following the method used in the books.
• Skipping the uniform capitalization rules of Section 263A, which otherwise push certain overhead costs into inventory.
• Avoiding the business interest limitation under Section 163(j).
• Using the completed contract method for certain smaller construction contracts.

As a company grows past the threshold, some of these methods must change. Planning for that year avoids a forced change with little notice.

Common timing opportunities

• Prepaid expenses: under the 12-month rule, many prepayments for benefits that do not extend beyond 12 months, or past the end of the following tax year, can be deducted when paid.
• Accrued bonuses: accrual method companies can deduct bonuses in the year earned if the obligation is fixed by year-end and paid within two and a half months.
• Advance payments: accrual method companies can generally defer part of customer prepayments to the following year, to the extent the revenue is also deferred in the financial statements.
• Fixed assets: bonus depreciation is again 100% for property acquired after January 19, 2025, and the 2026 Section 179 limit is $2,560,000.

Changing a method

Changing an accounting method generally requires submitting Form 3115 to the IRS. Many changes are automatic, meaning no advance consent is needed, while others require a request and a user fee. The change produces a Section 481(a) adjustment, which captures the cumulative difference between the old and new methods. A favorable adjustment is usually taken in the year of change, while an unfavorable adjustment is generally spread over four years.

Because the effect can be large, method changes are worth modeling before year-end, especially in the year before a sale or financing, when buyers and lenders will look closely at how income was reported.

Vallou reviews accounting methods each year, models the timing effect of potential changes, and prepares Form 3115 requests with CPA review.