The IRS released an advance copy of Notice 2011-99 which sets forth a proposed revenue procedure for the use of a simplified method to accrue original issue discount (OID) on a pool of credit card receivables.
The proposed revenue procedure would allow a taxpayer to use a safe harbor method of accounting for OID—the “proportional method.” The proportional method generally allocates to an accrual period an amount of unaccrued OID that is proportional to the amount of the stated redemption price at maturity (principal) of the pool that is paid by cardholders during the period. The method is intended to reduce administrative burdens and controversy for taxpayers and the IRS in computing OID accruals on a pool of credit card receivables under section 1272(a)(6).
Notice 2011-99 requests comments on the proposed revenue procedure; comments are to be submitted on or before March 16, 2012.
For an electronic copy of the notice:
Accruals of OID are generally taken into account over the term of a debt instrument using the constant yield method. Special rules apply for certain debt instruments for which the principal is subject to acceleration. Under section 1272(a)(6), if the principal is subject to acceleration, OID accruals are determined (under the statutory method) based on a prepayment assumption and a formula involving the present value of:
- All remaining payments as of the close of the accrual period
- Payments during the accrual period of amounts included in the stated redemption price at maturity, and
- The adjusted issue price of the debt instrument at the beginning of the accrual period
Section 1272(a)(6) applies to OID on any pool of debt instruments which may be affected by reason of prepayments, including a pool of credit card receivables. However, the balance of a pool of credit card receivables can be increased—as well as decreased—from one accrual period to the next, which adds complexity to the application of section 1272(a)(6).
The IRS has challenged the method of accounting for OID on a pool of receivables adopted by some taxpayers as not clearly reflecting income. In Capital One Financial Corp v Commissioner, 133 T.C. 136 (2009), the Tax Court held that the model used by the taxpayer for computing OID was a reasonable method after some modifications by the court.
Proposed revenue procedure in Notice 2011-99
According to the notice, under certain assumptions, the proportional method is a simplified method of calculation that generally produces the same results as an implementation of the statutory method.
The proposed revenue procedure would apply to a taxpayer generally if:
- The taxpayer issues credit cards allowing cardholders to access a revolving line of credit.
- The taxpayer does not treat the credit card purchase transactions of its cardholders as creating debt given for the sale or exchange of property.
- The taxpayer maintains one or more pools of receivables with respect to the credit cards.
- In the case of a taxpayer that maintains more than one pool of credit card receivables, the manner in which the pools are maintained does not achieve a result that is unreasonable.
Generally, under the proportional method of accounting for OID on a pool of receivables that would be permitted under the proposed revenue procedure:
- The required computations must be made monthly.
- At the beginning of each computation period, the taxpayer must determine certain specified information for each pool of credit card receivables.
- During each computation period, the taxpayer must determine for each pool the sum of the payments that reduce the beginning stated redemption price at maturity for the period.
- For each computation period, the taxpayer must compute the OID allocated to the period based on a formula.
Under the proposed revenue procedure, if the proportional method of accounting is used for any pool of credit card receivables, it would have to be used for every pool of credit card receivables. The revenue procedure would provide rules for changing to the proportional method of accounting for OID on a pool of credit card receivables. Under those proposed rules, the change would be made on a cut-off basis without a section 481 adjustment.
No effective date is set forth for the proposed revenue procedure; that section is “reserved.”
* * * * *
ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY KPMG TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING OR RECOMMENDING TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN.
The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser.
Back to top