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Free state tax service Publication 538 - Main Content Table of Contents Accounting PeriodsCalendar Year Fiscal Year Short Tax Year Improper Tax Year Change in Tax Year Individuals Partnerships, S Corporations, and Personal Service Corporations (PSCs) Corporations (Other Than S Corporations and PSCs) Accounting MethodsSpecial methods. Free state tax service Hybrid method. Free state tax service Cash Method Accrual Method Inventories Change in Accounting Method How To Get Tax HelpLow Income Taxpayer Clinics (LITCs). Free state tax service Accounting Periods You must use a tax year to figure your taxable income. Free state tax service A tax year is an annual accounting period for keeping records and reporting income and expenses. Free state tax service An annual accounting period does not include a short tax year (discussed later). Free state tax service You can use the following tax years: A calendar year; or A fiscal year (including a 52-53-week tax year). Free state tax service Unless you have a required tax year, you adopt a tax year by filing your first income tax return using that tax year. Free state tax service A required tax year is a tax year required under the Internal Revenue Code or the Income Tax Regulations. Free state tax service You cannot adopt a tax year by merely: Filing an application for an extension of time to file an income tax return; Filing an application for an employer identification number (Form SS-4); or Paying estimated taxes. Free state tax service This section discusses: A calendar year. Free state tax service A fiscal year (including a period of 52 or 53 weeks). Free state tax service A short tax year. Free state tax service An improper tax year. Free state tax service A change in tax year. Free state tax service Special situations that apply to individuals. Free state tax service Restrictions that apply to the accounting period of a partnership, S corporation, or personal service corporation. Free state tax service Special situations that apply to corporations. Free state tax service Calendar Year A calendar year is 12 consecutive months beginning on January 1st and ending on December 31st. Free state tax service If you adopt the calendar year, you must maintain your books and records and report your income and expenses from January 1st through December 31st of each year. Free state tax service 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 obtain approval from the IRS to change it, or are otherwise allowed to change it without IRS approval. Free state tax service See Change in Tax Year, later. Free state tax service Generally, anyone can adopt the calendar year. Free state tax service However, you must adopt the calendar year if: You keep no books or records; You have no annual accounting period; Your present tax year does not qualify as a fiscal year; or You are required to use a calendar year by a provision in the Internal Revenue Code or the Income Tax Regulations. Free state tax service Fiscal Year A fiscal year is 12 consecutive months ending on the last day of any month except December 31st. Free state tax service If you are allowed to adopt a fiscal year, you must consistently maintain your books and records and report your income and expenses using the time period adopted. Free state tax service 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. Free state tax service If you make this election, your 52-53-week tax year must always end on the same day of the week. Free state tax service Your 52-53-week tax year must always end on: Whatever date this same day of the week last occurs in a calendar month, or Whatever date this same day of the week falls that is nearest to the last day of the calendar month. Free state tax service For example, if you elect a tax year that always ends on the last Monday in March, your 2012 tax year will end on March 25, 2013. Free state tax service Election. Free state tax service   To make the election for the 52-53-week tax year, attach a statement with the following information to your tax return. Free state tax service The month in which the new 52-53-week tax year ends. Free state tax service The day of the week on which the tax year always ends. Free state tax service The date the tax year ends. Free state tax service It can be either of the following dates on which the chosen day: Last occurs in the month in (1), above, or Occurs nearest to the last day of the month in (1), above. Free state tax service   When you figure depreciation or amortization, a 52-53-week tax year is generally considered a year of 12 calendar months. Free state tax service   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: Begin on the first day of the calendar month beginning nearest to the first day of the 52-53-week tax year, and End on the last day of the calendar month ending nearest to the last day of the 52-53-week tax year. Free state tax service Example. Free state tax service Assume a tax provision applies to tax years beginning on or after July 1, 2012, which happens to be a Sunday. Free state tax service For this purpose, a 52-53-week tax year that begins on the last Tuesday of June, which falls on June 26, 2012, is treated as beginning on July 1, 2012. Free state tax service Short Tax Year A short tax year is a tax year of less than 12 months. Free state tax service A short period tax return may be required when you (as a taxable entity): Are not in existence for an entire tax year, or Change your accounting period. Free state tax service Tax on a short period tax return is figured differently for each situation. Free state tax service Not in Existence Entire Year Even if a taxable entity was not in existence for the entire year, a tax return is required for the time it was in existence. Free state tax service 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. Free state tax service Example 1. Free state tax service XYZ Corporation was organized on July 1, 2012. Free state tax service It elected the calendar year as its tax year. Free state tax service Therefore, its first tax return was due March 15, 2013. Free state tax service This short period return will cover the period from July 1, 2012, through December 31, 2012. Free state tax service Example 2. Free state tax service A calendar year corporation dissolved on July 23, 2012. Free state tax service Its final return is due by October 15, 2012. Free state tax service It will cover the short period from January 1, 2012, through July 23, 2012. Free state tax service Death of individual. Free state tax service   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. Free state tax service The decedent's final return will be a short period tax return that begins on January 1st, and ends on the date of death. Free state tax service In the case of a decedent who dies on December 31st, the last day of the regular tax year, a full calendar-year tax return is required. Free state tax service Example. Free state tax service   Agnes Green was a single, calendar year taxpayer. Free state tax service She died on March 6, 2012. Free state tax service Her final income tax return must be filed by April 15, 2013. Free state tax service It will cover the short period from January 1, 2012, to March 6, 2012. Free state tax service 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. Free state tax service 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. Free state tax service Figure tax for a short year under the general rule, explained below. Free state tax service You may then be able to use a relief procedure, explained later, and claim a refund of part of the tax you paid. Free state tax service General rule. Free state tax service   Income tax for a short tax year must be annualized. Free state tax service However, self-employment tax is figured on the actual self-employment income for the short period. Free state tax service Individuals. Free state tax service   An individual must figure income tax for the short tax year as follows. Free state tax service Determine your adjusted gross income (AGI) for the short tax year and then subtract your actual itemized deductions for the short tax year. Free state tax service You must itemize deductions when you file a short period tax return. Free state tax service Multiply the dollar amount of your exemptions by the number of months in the short tax year and divide the result by 12. Free state tax service Subtract the amount in (2) from the amount in (1). Free state tax service The result is your modified taxable income. Free state tax service Multiply the modified taxable income in (3) by 12, then divide the result by the number of months in the short tax year. Free state tax service The result is your annualized income. Free state tax service Figure the total tax on your annualized income using the appropriate tax rate schedule. Free state tax service Multiply the total tax by the number of months in the short tax year and divide the result by 12. Free state tax service The result is your tax for the short tax year. Free state tax service Relief procedure. Free state tax service   Individuals and corporations can use a relief procedure to figure the tax for the short tax year. Free state tax service It may result in less tax. Free state tax service Under this procedure, the tax is figured by two separate methods. Free state tax service 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. Free state tax service For more information, see section 443(b)(2) of the Internal Revenue Code. Free state tax service Alternative minimum tax. Free state tax service   To figure the alternative minimum tax (AMT) due for a short tax year: Figure the annualized alternative minimum taxable income (AMTI) for the short tax period by completing the following steps. Free state tax service Multiply the AMTI by 12. Free state tax service Divide the result by the number of months in the short tax year. Free state tax service Multiply the annualized AMTI by the appropriate rate of tax under section 55(b)(1) of the Internal Revenue Code. Free state tax service The result is the annualized AMT. Free state tax service Multiply the annualized AMT by the number of months in the short tax year and divide the result by 12. Free state tax service   For information on the AMT for individuals, see the Instructions for Form 6251, Alternative Minimum Tax–Individuals. Free state tax service For information on the AMT for corporations, see the Instructions to Form 4626, Alternative Minimum Tax–Corporations. Free state tax service Tax withheld from wages. Free state tax service   You can claim a credit against your income tax liability for federal income tax withheld from your wages. Free state tax service Federal income tax is withheld on a calendar year basis. Free state tax service The amount withheld in any calendar year is allowed as a credit for the tax year beginning in the calendar year. Free state tax service Improper Tax Year Taxpayers that have adopted an improper tax year must change to a proper tax year. Free state tax service For example, if a taxpayer began business on March 15 and adopted a tax year ending on March 14 (a period of exactly 12 months), this would be an improper tax year. Free state tax service See Accounting Periods, earlier, for a description of permissible tax years. Free state tax service To change to a proper tax year, you must do one of the following. Free state tax service If you are requesting a change to a calendar tax year, file an amended income tax return based on a calendar tax year that corrects the most recently filed tax return that was filed on the basis of an improper tax year. Free state tax service Attach a completed Form 1128 to the amended tax return. Free state tax service Write “FILED UNDER REV. Free state tax service PROC. Free state tax service 85-15” at the top of Form 1128 and file the forms with the Internal Revenue Service Center where you filed your original return. Free state tax service If you are requesting a change to a fiscal tax year, file Form 1128 in accordance with the form instructions to request IRS approval for the change. Free state tax service Change in Tax Year Generally, you must file Form 1128 to request IRS approval to change your tax year. Free state tax service See the Instructions for Form 1128 for exceptions. Free state tax service If you qualify for an automatic approval request, a user fee is not required. Free state tax service Individuals Generally, individuals must adopt the calendar year as their tax year. Free state tax service An individual can adopt a fiscal year provided that the individual maintains his or her books and records on the basis of the adopted fiscal year. Free state tax service Partnerships, S Corporations, and Personal Service Corporations (PSCs) Generally, partnerships, S corporations (including electing S corporations), and PSCs must use a required tax year. Free state tax service A required tax year is a tax year that is required under the Internal Revenue Code and Income Tax Regulations. Free state tax service The entity does not have to use the required tax year if it receives IRS approval to use another permitted tax year or makes an election under section 444 of the Internal Revenue Code (discussed later). Free state tax service The following discussions provide the rules for partnerships, S corporations, and PSCs. Free state tax service Partnership A partnership must conform its tax year to its partners' tax years unless any of the following apply. Free state tax service The partnership makes an election under section 444 of the Internal Revenue Code to have a tax year other than a required tax year by filing Form 8716. Free state tax service The partnership elects to use a 52-53-week tax year that ends with reference to either its required tax year or a tax year elected under section 444. Free state tax service The partnership can establish a business purpose for a different tax year. Free state tax service The rules for the required tax year for partnerships are as follows. Free state tax service If one or more partners having the same tax year own a majority interest (more than 50%) in partnership profits and capital, the partnership must use the tax year of those partners. Free state tax service If there is no majority interest tax year, the partnership must use the tax year of all its principal partners. Free state tax service A principal partner is one who has a 5% or more interest in the profits or capital of the partnership. Free state tax service If there is no majority interest tax year and the principal partners do not have the same tax year, the partnership generally must use a tax year that results in the least aggregate deferral of income to the partners. Free state tax service If a partnership changes to a required tax year because of these rules, it can get automatic approval by filing Form 1128. Free state tax service Least aggregate deferral of income. Free state tax service   The tax year that results in the least aggregate deferral of income is determined as follows. Free state tax service Figure the number of months of deferral for each partner using one partner's tax year. Free state tax service Find the months of deferral by counting the months from the end of that tax year forward to the end of each other partner's tax year. Free state tax service Multiply each partner's months of deferral figured in step (1) by that partner's share of interest in the partnership profits for the year used in step (1). Free state tax service Add the amounts in step (2) to get the aggregate (total) deferral for the tax year used in step (1). Free state tax service Repeat steps (1) through (3) for each partner's tax year that is different from the other partners' years. Free state tax service   The partner's tax year that results in the lowest aggregate (total) number is the tax year that must be used by the partnership. Free state tax service If the calculation results in more than one tax year qualifying as the tax year with the least aggregate deferral, the partnership can choose any one of those tax years as its tax year. Free state tax service However, if one of the tax years that qualifies is the partnership's existing tax year, the partnership must retain that tax year. Free state tax service Example. Free state tax service A and B each have a 50% interest in partnership P, which uses a fiscal year ending June 30. Free state tax service A uses the calendar year and B uses a fiscal year ending November 30. Free state tax service P must change its tax year to a fiscal year ending November 30 because this results in the least aggregate deferral of income to the partners, as shown in the following table. Free state tax service Year End 12/31: Year End Profits Interest Months of Deferral Interest × Deferral A 12/31 0. Free state tax service 5 -0- -0- B 11/30 0. Free state tax service 5 11 5. Free state tax service 5 Total Deferral 5. Free state tax service 5 Year End 11/30: Year End Profits Interest Months of Deferral Interest × Deferral A 12/31 0. Free state tax service 5 1 0. Free state tax service 5 B 11/30 0. Free state tax service 5 -0- -0- Total Deferral 0. Free state tax service 5 When determination is made. Free state tax service   The determination of the tax year under the least aggregate deferral rules must generally be made at the beginning of the partnership's current tax year. Free state tax service However, the IRS can require the partnership to use another day or period that will more accurately reflect the ownership of the partnership. Free state tax service This could occur, for example, if a partnership interest was transferred for the purpose of qualifying for a particular tax year. Free state tax service Short period return. Free state tax service   When a partnership changes its tax year, a short period return must be filed. Free state tax service The short period return covers the months between the end of the partnership's prior tax year and the beginning of its new tax year. Free state tax service   If a partnership changes to the tax year resulting in the least aggregate deferral, it must file a Form 1128 with the short period return showing the computations used to determine that tax year. Free state tax service The short period return must indicate at the top of page 1, “FILED UNDER SECTION 1. Free state tax service 706-1. Free state tax service ” More information. Free state tax service   For more information about changing a partnership's tax year, and information about ruling requests, see the Instructions for Form 1128. Free state tax service S Corporation All S corporations, regardless of when they became an S corporation, must use a permitted tax year. Free state tax service A permitted tax year is any of the following. Free state tax service The calendar year. Free state tax service A tax year elected under section 444 of the Internal Revenue Code. Free state tax service See Section 444 Election, below for details. Free state tax service A 52-53-week tax year ending with reference to the calendar year or a tax year elected under section 444. Free state tax service Any other tax year for which the corporation establishes a business purpose. Free state tax service If an electing S corporation wishes to adopt a tax year other than a calendar year, it must request IRS approval using Form 2553, instead of filing Form 1128. Free state tax service For information about changing an S corporation's tax year and information about ruling requests, see the Instructions for Form 1128. Free state tax service Personal Service Corporation (PSC) A PSC must use a calendar tax year unless any of the following apply. Free state tax service The corporation makes an election under section 444 of the Internal Revenue Code. Free state tax service See Section 444 Election, below for details. Free state tax service The corporation elects to use a 52-53-week tax year ending with reference to the calendar year or a tax year elected under section 444. Free state tax service The corporation establishes a business purpose for a fiscal year. Free state tax service See the Instructions for Form 1120 for general information about PSCs. Free state tax service For information on adopting or changing tax years for PSCs and information about ruling requests, see the Instructions for Form 1128. Free state tax service Section 444 Election A partnership, S corporation, electing S corporation, or PSC can elect under section 444 of the Internal Revenue Code to use a tax year other than its required tax year. Free state tax service Certain restrictions apply to the election. Free state tax service A partnership or an S corporation that makes a section 444 election must make certain required payments and a PSC must make certain distributions (discussed later). Free state tax service The section 444 election does not apply to any partnership, S corporation, or PSC that establishes a business purpose for a different period, explained later. Free state tax service A partnership, S corporation, or PSC can make a section 444 election if it meets all the following requirements. Free state tax service It is not a member of a tiered structure (defined in section 1. Free state tax service 444-2T of the regulations). Free state tax service It has not previously had a section 444 election in effect. Free state tax service It elects a year that meets the deferral period requirement. Free state tax service Deferral period. Free state tax service   The determination of the deferral period depends on whether the partnership, S corporation, or PSC is retaining its tax year or adopting or changing its tax year with a section 444 election. Free state tax service Retaining tax year. Free state tax service   Generally, a partnership, S corporation, or PSC can make a section 444 election to retain its tax year only if the deferral period of the new tax year is 3 months or less. Free state tax service This deferral period is the number of months between the beginning of the retained year and the close of the first required tax year. Free state tax service Adopting or changing tax year. Free state tax service   If the partnership, S corporation, or PSC is adopting or changing to a tax year other than its required year, the deferral period is the number of months from the end of the new tax year to the end of the required tax year. Free state tax service The IRS will allow a section 444 election only if the deferral period of the new tax year is less than the shorter of: Three months, or The deferral period of the tax year being changed. Free state tax service This is the tax year immediately preceding the year for which the partnership, S corporation, or PSC wishes to make the section 444 election. Free state tax service If the partnership, S corporation, or PSC's tax year is the same as its required tax year, the deferral period is zero. Free state tax service Example 1. Free state tax service BD Partnership uses a calendar year, which is also its required tax year. Free state tax service BD cannot make a section 444 election because the deferral period is zero. Free state tax service Example 2. Free state tax service E, a newly formed partnership, began operations on December 1. Free state tax service E is owned by calendar year partners. Free state tax service E wants to make a section 444 election to adopt a September 30 tax year. Free state tax service E's deferral period for the tax year beginning December 1 is 3 months, the number of months between September 30 and December 31. Free state tax service Making the election. Free state tax service   Make a section 444 election by filing Form 8716 with the Internal Revenue Service Center where the entity will file its tax return. Free state tax service Form 8716 must be filed by the earlier of: The due date (not including extensions) of the income tax return for the tax year resulting from the section 444 election, or The 15th day of the 6th month of the tax year for which the election will be effective. Free state tax service For this purpose, count the month in which the tax year begins, even if it begins after the first day of that month. Free state tax service Note. Free state tax service If the due date falls on a Saturday, Sunday, or legal holiday, file on the next business day. Free state tax service   Attach a copy of Form 8716 to Form 1065, Form 1120S, or Form 1120 for the first tax year for which the election is made. Free state tax service Example 1. Free state tax service AB, a partnership, begins operations on September 13, 2012, and is qualified to make a section 444 election to use a September 30 tax year for its tax year beginning September 13, 2012. Free state tax service AB must file Form 8716 by January 15, 2013, which is the due date of the partnership's tax return for the period from September 13, 2012, to September 30, 2012. Free state tax service Example 2. Free state tax service The facts are the same as in Example 1 except that AB begins operations on October 21, 2012. Free state tax service AB must file Form 8716 by March 17, 2013. Free state tax service Example 3. Free state tax service B is a corporation that first becomes a PSC for its tax year beginning September 1, 2012. Free state tax service B qualifies to make a section 444 election to use a September 30 tax year for its tax year beginning September 1, 2012. Free state tax service B must file Form 8716 by December 17, 2012, the due date of the income tax return for the short period from September 1, 2012, to September 30, 2012. Free state tax service Note. Free state tax service The due dates in Examples 2 and 3 are adjusted because the dates fall on a Saturday, Sunday or legal holiday. Free state tax service Extension of time for filing. Free state tax service   There is an automatic extension of 12 months to make this election. Free state tax service See the Form 8716 instructions for more information. Free state tax service Terminating the election. Free state tax service   The section 444 election remains in effect until it is terminated. Free state tax service If the election is terminated, another section 444 election cannot be made for any tax year. Free state tax service   The election ends when any of the following applies to the partnership, S corporation, or PSC. Free state tax service The entity changes to its required tax year. Free state tax service The entity liquidates. Free state tax service The entity becomes a member of a tiered structure. Free state tax service The IRS determines that the entity willfully failed to comply with the required payments or distributions. Free state tax service   The election will also end if either of the following events occur. Free state tax service An S corporation's S election is terminated. Free state tax service However, if the S corporation immediately becomes a PSC, the PSC can continue the section 444 election of the S corporation. Free state tax service A PSC ceases to be a PSC. Free state tax service If the PSC elects to be an S corporation, the S corporation can continue the election of the PSC. Free state tax service Required payment for partnership or S corporation. Free state tax service   A partnership or an S corporation must make a required payment for any tax year: The section 444 election is in effect. Free state tax service The required payment for that year (or any preceding tax year) is more than $500. Free state tax service    This payment represents the value of the tax deferral the owners receive by using a tax year different from the required tax year. Free state tax service   Form 8752, Required Payment or Refund Under Section 7519, must be filed each year the section 444 election is in effect, even if no payment is due. Free state tax service If the required payment is more than $500 (or the required payment for any prior year was more than $500), the payment must be made when Form 8752 is filed. Free state tax service If the required payment is $500 or less and no payment was required in a prior year, Form 8752 must be filed showing a zero amount. Free state tax service Applicable election year. Free state tax service   Any tax year a section 444 election is in effect, including the first year, is called an applicable election year. Free state tax service Form 8752 must be filed and the required payment made (or zero amount reported) by May 15th of the calendar year following the calendar year in which the applicable election year begins. Free state tax service Required distribution for PSC. Free state tax service   A PSC with a section 444 election in effect must distribute certain amounts to employee-owners by December 31 of each applicable year. Free state tax service If it fails to make these distributions, it may be required to defer certain deductions for amounts paid to owner-employees. Free state tax service The amount deferred is treated as paid or incurred in the following tax year. Free state tax service   For information on the minimum distribution, see the instructions for Part I of Schedule H (Form 1120), Section 280H Limitations for a Personal Service Corporation (PSC). Free state tax service Back-up election. Free state tax service   A partnership, S corporation, or PSC can file a back-up section 444 election if it requests (or plans to request) permission to use a business purpose tax year, discussed later. Free state tax service If the request is denied, the back-up section 444 election must be activated (if the partnership, S corporation, or PSC otherwise qualifies). Free state tax service Making back-up election. Free state tax service   The general rules for making a section 444 election, as discussed earlier, apply. Free state tax service When filing Form 8716, type or print “BACK-UP ELECTION” at the top of the form. Free state tax service However, if Form 8716 is filed on or after the date Form 1128 (or Form 2553) is filed, type or print “FORM 1128 (or FORM 2553) BACK-UP ELECTION” at the top of Form 8716. Free state tax service Activating election. Free state tax service   A partnership or S corporation activates its back-up election by filing the return required and making the required payment with Form 8752. Free state tax service The due date for filing Form 8752 and making the payment is the later of the following dates. Free state tax service May 15 of the calendar year following the calendar year in which the applicable election year begins. Free state tax service 60 days after the partnership or S corporation has been notified by the IRS that the business year request has been denied. Free state tax service   A PSC activates its back-up election by filing Form 8716 with its original or amended income tax return for the tax year in which the election is first effective and printing on the top of the income tax return, “ACTIVATING BACK-UP ELECTION. Free state tax service ” 52-53-Week Tax Year A partnership, S corporation, or PSC can use a tax year other than its required tax year if it elects a 52-53-week tax year (discussed earlier) that ends with reference to either its required tax year or a tax year elected under section 444 (discussed earlier). Free state tax service A newly formed partnership, S corporation, or PSC can adopt a 52-53-week tax year ending with reference to either its required tax year or a tax year elected under section 444 without IRS approval. Free state tax service However, if the entity wishes to change to a 52-53-week tax year or change from a 52-53-week tax year that references a particular month to a non-52-53-week tax year that ends on the last day of that month, it must request IRS approval by filing Form 1128. Free state tax service Business Purpose Tax Year A partnership, S corporation, or PSC establishes the business purpose for a tax year by filing Form 1128. Free state tax service See the Instructions for Form 1128 for details. Free state tax service Corporations (Other Than S Corporations and PSCs) A new corporation establishes its tax year when it files its first tax return. Free state tax service A newly reactivated corporation that has been inactive for a number of years is treated as a new taxpayer for the purpose of adopting a tax year. Free state tax service An S corporation or a PSC must use the required tax year rules, discussed earlier, to establish a tax year. Free state tax service Generally, a corporation that wants to change its tax year must obtain approval from the IRS under either the: (a) automatic approval procedures; or (b) ruling request procedures. Free state tax service See the Instructions for Form 1128 for details. Free state tax service Accounting Methods An accounting method is a set of rules used to determine when income and expenses are reported on your tax return. Free state tax service Your accounting method includes not only your overall method of accounting, but also the accounting treatment you use for any material item. Free state tax service You choose an accounting method when you file your first tax return. Free state tax service If you later want to change your accounting method, you must get IRS approval. Free state tax service See Change in Accounting Method, later. Free state tax service No single accounting method is required of all taxpayers. Free state tax service You must use a system that clearly reflects your income and expenses and you must maintain records that will enable you to file a correct return. Free state tax service In addition to your permanent accounting books, you must keep any other records necessary to support the entries on your books and tax returns. Free state tax service You must use the same accounting method from year to year. Free state tax service An accounting method clearly reflects income only if all items of gross income and expenses are treated the same from year to year. Free state tax service If you do not regularly use an accounting method that clearly reflects your income, your income will be refigured under the method that, in the opinion of the IRS, does clearly reflect income. Free state tax service Methods you can use. Free state tax service   In general, you can compute your taxable income under any of the following accounting methods. Free state tax service Cash method. Free state tax service Accrual method. Free state tax service Special methods of accounting for certain items of income and expenses. Free state tax service A hybrid method which combines elements of two or more of the above accounting methods. Free state tax service The cash and accrual methods of accounting are explained later. Free state tax service Special methods. Free state tax service   This publication does not discuss special methods of accounting for certain items of income or expenses. Free state tax service For information on reporting income using one of the long-term contract methods, see section 460 of the Internal Revenue Code and the related regulations. Free state tax service The following publications also discuss special methods of reporting income or expenses. Free state tax service Publication 225, Farmer's Tax Guide. Free state tax service Publication 535, Business Expenses. Free state tax service Publication 537, Installment Sales. Free state tax service Publication 946, How To Depreciate Property. Free state tax service Hybrid method. Free state tax service   Generally, you can use any combination of cash, accrual, and special methods of accounting if the combination clearly reflects your income and you use it consistently. Free state tax service However, the following restrictions apply. Free state tax service If an inventory is necessary to account for your income, you must use an accrual method for purchases and sales. Free state tax service See Exceptions under Inventories, later. Free state tax service Generally, you can use the cash method for all other items of income and expenses. Free state tax service See Inventories, later. Free state tax service If you use the cash method for reporting your income, you must use the cash method for reporting your expenses. Free state tax service If you use an accrual method for reporting your expenses, you must use an accrual method for figuring your income. Free state tax service Any combination that includes the cash method is treated as the cash method for purposes of section 448 of the Internal Revenue Code. Free state tax service Business and personal items. Free state tax service   You can account for business and personal items using different accounting methods. Free state tax service For example, you can determine your business income and expenses under an accrual method, even if you use the cash method to figure personal items. Free state tax service Two or more businesses. Free state tax service   If you operate two or more separate and distinct businesses, you can use a different accounting method for each business. Free state tax service No business is separate and distinct, unless a complete and separate set of books and records is maintained for each business. Free state tax service Note. Free state tax service If you use different accounting methods to create or shift profits or losses between businesses (for example, through inventory adjustments, sales, purchases, or expenses) so that income is not clearly reflected, the businesses will not be considered separate and distinct. Free state tax service Cash Method Most individuals and many small businesses use the cash method of accounting. Free state tax service Generally, if you produce, purchase, or sell merchandise, you must keep an inventory and use an accrual method for sales and purchases of merchandise. Free state tax service See Inventories, later, for exceptions to this rule. Free state tax service Income Under the cash method, you include in your gross income all items of income you actually or constructively receive during the tax year. Free state tax service If you receive property and services, you must include their fair market value (FMV) in income. Free state tax service Constructive receipt. Free state tax service   Income is constructively received when an amount is credited to your account or made available to you without restriction. Free state tax service You need not have possession of it. Free state tax service If you authorize someone to be your agent and receive income for you, you are considered to have received it when your agent receives it. Free state tax service Income is not constructively received if your control of its receipt is subject to substantial restrictions or limitations. Free state tax service Example. Free state tax service You are a calendar year taxpayer. Free state tax service Your bank credited, and made available, interest to your bank account in December 2012. Free state tax service You did not withdraw it or enter it into your books until 2013. Free state tax service You must include the amount in gross income for 2012, the year you constructively received it. Free state tax service You cannot hold checks or postpone taking possession of similar property from one tax year to another to postpone paying tax on the income. Free state tax service You must report the income in the year the property is received or made available to you without restriction. Free state tax service Expenses Under the cash method, generally, you deduct expenses in the tax year in which you actually pay them. Free state tax service This includes business expenses for which you contest liability. Free state tax service However, you may not be able to deduct an expense paid in advance. Free state tax service Instead, you may be required to capitalize certain costs, as explained later under Uniform Capitalization Rules. Free state tax service Expense paid in advance. Free state tax service   An expense you pay in advance is deductible only in the year to which it applies, unless the expense qualifies for the 12-month rule. Free state tax service   Under the 12-month rule, a taxpayer is not required to capitalize amounts paid to create certain rights or benefits for the taxpayer that do not extend beyond the earlier of the following. Free state tax service 12 months after the right or benefit begins, or The end of the tax year after the tax year in which payment is made. Free state tax service   If you have not been applying the general rule (an expense paid in advance is deductible only in the year to which it applies) and/or the 12-month rule to the expenses you paid in advance, you must obtain approval from the IRS before using the general rule and/or the 12-month rule. Free state tax service See Change in Accounting Method, later. Free state tax service Example 1. Free state tax service You are a calendar year taxpayer and pay $3,000 in 2012 for a business insurance policy that is effective for three years (36 months), beginning on July 1, 2012. Free state tax service The general rule that an expense paid in advance is deductible only in the year to which it applies is applicable to this payment because the payment does not qualify for the 12-month rule. Free state tax service Therefore, only $500 (6/36 x $3,000) is deductible in 2012, $1,000 (12/36 x $3,000) is deductible in 2013, $1,000 (12/36 x $3,000) is deductible in 2014, and the remaining $500 is deductible in 2015. Free state tax service Example 2. Free state tax service You are a calendar year taxpayer and pay $10,000 on July 1, 2012, for a business insurance policy that is effective for only one year beginning on July 1, 2012. Free state tax service The 12-month rule applies. Free state tax service Therefore, the full $10,000 is deductible in 2012. Free state tax service Excluded Entities The following entities cannot use the cash method, including any combination of methods that includes the cash method. Free state tax service (See Special rules for farming businesses, later. Free state tax service ) A corporation (other than an S corporation) with average annual gross receipts exceeding $5 million. Free state tax service See Gross receipts test, below. Free state tax service A partnership with a corporation (other than an S corporation) as a partner, and with the partnership having average annual gross receipts exceeding $5 million. Free state tax service See Gross receipts test, below. Free state tax service A tax shelter. Free state tax service Exceptions The following entities are not prohibited from using the cash method of accounting. Free state tax service Any corporation or partnership, other than a tax shelter, that meets the gross receipts test for all tax years after 1985. Free state tax service A qualified personal service corporation (PSC). Free state tax service Gross receipts test. Free state tax service   A corporation or partnership, other than a tax shelter, that meets the gross receipts test can generally use the cash method. Free state tax service A corporation or a partnership meets the test if, for each prior tax year beginning after 1985, its average annual gross receipts are $5 million or less. Free state tax service    An entity's average annual gross receipts for a prior tax year is determined by: Adding the gross receipts for that tax year and the 2 preceding tax years; and Dividing the total by 3. Free state tax service See Gross receipts test for qualifying taxpayers, for more information. Free state tax service Generally, a partnership applies the test at the partnership level. Free state tax service Gross receipts for a short tax year are annualized. Free state tax service Aggregation rules. Free state tax service   Organizations that are members of an affiliated service group or a controlled group of corporations treated as a single employer for tax purposes are required to aggregate their gross receipts to determine whether the gross receipts test is met. Free state tax service Change to accrual method. Free state tax service   A corporation or partnership that fails to meet the gross receipts test for any tax year is prohibited from using the cash method and must change to an accrual method of accounting, effective for the tax year in which the entity fails to meet this test. Free state tax service Special rules for farming businesses. Free state tax service   Generally, a taxpayer engaged in the trade or business of farming is allowed to use the cash method for its farming business. Free state tax service However, certain corporations (other than S corporations) and partnerships that have a partner that is a corporation must use an accrual method for their farming business. Free state tax service For this purpose, farming does not include the operation of a nursery or sod farm or the raising or harvesting of trees (other than fruit and nut trees). Free state tax service   There is an exception to the requirement to use an accrual method for corporations with gross receipts of $1 million or less for each prior tax year after 1975. Free state tax service For family corporations engaged in farming, the exception applies if gross receipts were $25 million or less for each prior tax year after 1985. Free state tax service See chapter 2 of Publication 225, Farmer's Tax Guide, for more information. Free state tax service Qualified PSC. Free state tax service   A PSC that meets the following function and ownership tests can use the cash method. Free state tax service Function test. Free state tax service   A corporation meets the function test if at least 95% of its activities are in the performance of services in the fields of health, veterinary services, law, engineering (including surveying and mapping), architecture, accounting, actuarial science, performing arts, or consulting. Free state tax service Ownership test. Free state tax service   A corporation meets the ownership test if at least 95% of its stock is owned, directly or indirectly, at all times during the year by one or more of the following. Free state tax service Employees performing services for the corporation in a field qualifying under the function test. Free state tax service Retired employees who had performed services in those fields. Free state tax service The estate of an employee described in (1) or (2). Free state tax service Any other person who acquired the stock by reason of the death of an employee referred to in (1) or (2), but only for the 2-year period beginning on the date of death. Free state tax service   Indirect ownership is generally taken into account if the stock is owned indirectly through one or more partnerships, S corporations, or qualified PSCs. Free state tax service Stock owned by one of these entities is considered owned by the entity's owners in proportion to their ownership interest in that entity. Free state tax service Other forms of indirect stock ownership, such as stock owned by family members, are generally not considered when determining if the ownership test is met. Free state tax service   For purposes of the ownership test, a person is not considered an employee of a corporation unless that person performs more than minimal services for the corporation. Free state tax service Change to accrual method. Free state tax service   A corporation that fails to meet the function test for any tax year; or fails to meet the ownership test at any time during any tax year must change to an accrual method of accounting, effective for the year in which the corporation fails to meet either test. Free state tax service A corporation that fails to meet the function test or the ownership test is not treated as a qualified PSC for any part of that tax year. Free state tax service Accrual Method Under the accrual method of accounting, generally you report income in the year it is earned and deduct or capitalize expenses in the year incurred. Free state tax service The purpose of an accrual method of accounting is to match income and expenses in the correct year. Free state tax service Income Generally, you include an amount in gross income for the tax year in which all events that fix your right to receive the income have occurred and you can determine the amount with reasonable accuracy. Free state tax service Under this rule, you report an amount in your gross income on the earliest of the following dates. Free state tax service When you receive payment. Free state tax service When the income amount is due to you. Free state tax service When you earn the income. Free state tax service When title has passed. Free state tax service Estimated income. Free state tax service   If you include a reasonably estimated amount in gross income and later determine the exact amount is different, take the difference into account in the tax year you make that determination. Free state tax service Change in payment schedule. Free state tax service   If you perform services for a basic rate specified in a contract, you must accrue the income at the basic rate, even if you agree to receive payments at a reduced rate. Free state tax service Continue this procedure until you complete the services, then account for the difference. Free state tax service Advance Payment for Services Generally, you report an advance payment for services to be performed in a later tax year as income in the year you receive the payment. Free state tax service However, if you receive an advance payment for services you agree to perform by the end of the next tax year, you can elect to postpone including the advance payment in income until the next tax year. Free state tax service However, you cannot postpone including any payment beyond that tax year. Free state tax service Service agreement. Free state tax service   You can postpone reporting income from an advance payment you receive for a service agreement on property you sell, lease, build, install, or construct. Free state tax service This includes an agreement providing for incidental replacement of parts or materials. Free state tax service However, this applies only if you offer the property without a service agreement in the normal course of business. Free state tax service Postponement not allowed. Free state tax service   Generally, one cannot postpone including an advance payment in income for services if either of the following applies. Free state tax service You are to perform any part of the service after the end of the tax year immediately following the year you receive the advance payment. Free state tax service You are to perform any part of the service at any unspecified future date that may be after the end of the tax year immediately following the year you receive the advance payment. Free state tax service Examples. Free state tax service   In each of the following examples, assume the tax year is a calendar year and that the accrual method of accounting is used. Free state tax service Example 1. Free state tax service You manufacture, sell, and service computers. Free state tax service You received payment in 2012 for a one-year contingent service contract on a computer you sold. Free state tax service You can postpone including in income the part of the payment you did not earn in 2012 if, in the normal course of your business, you offer computers for sale without a contingent service contract. Free state tax service Example 2. Free state tax service You are in the television repair business. Free state tax service You received payments in 2012 for one-year contracts under which you agree to repair or replace certain parts that fail to function properly in television sets manufactured and sold by unrelated parties. Free state tax service You include the payments in gross income as you earn them. Free state tax service Example 3. Free state tax service You own a dance studio. Free state tax service On October 1, 2012, you receive payment for a one-year contract for 48 one-hour lessons beginning on that date. Free state tax service You give eight lessons in 2012. Free state tax service Under this method of including advance payments, you must include one-sixth (8/48) of the payment in income for 2012, and five-sixths (40/48) of the payment in 2013, even if you do not give all the lessons by the end of 2013. Free state tax service Example 4. Free state tax service Assume the same facts as in Example 3, except the payment is for a two-year contract for 96 lessons. Free state tax service You must include the entire payment in income in 2012 since part of the services may be performed after the following year. Free state tax service Guarantee or warranty. Free state tax service   Generally, you cannot postpone reporting income you receive under a guarantee or warranty contract. Free state tax service Prepaid rent. Free state tax service   You cannot postpone reporting income from prepaid rent. Free state tax service Prepaid rent does not include payment for the use of a room or other space when significant service is also provided for the occupant. Free state tax service You provide significant service when you supply space in a hotel, boarding house, tourist home, motor court, motel, or apartment house that furnishes hotel services. Free state tax service Books and records. Free state tax service   Any advance payment you include in gross receipts on your tax return for the year you receive payment must not be less than the payment you include in income for financial reports under the method of accounting used for those reports. Free state tax service Financial reports include reports to shareholders, partners, beneficiaries, and other proprietors for credit purposes and consolidated financial statements. Free state tax service IRS approval. Free state tax service   You must file Form 3115 to obtain IRS approval to change your method of accounting for advance payment for services. Free state tax service Advance Payment for Sales Special rules apply to including income from advance payments on agreements for future sales or other dispositions of goods held primarily for sale to customers in the ordinary course of your trade or business. Free state tax service However, the rules do not apply to a payment (or part of a payment) for services that are not an integral part of the main activities covered under the agreement. Free state tax service An agreement includes a gift certificate that can be redeemed for goods. Free state tax service Amounts due and payable are considered received. Free state tax service How to report payments. Free state tax service   Generally, include an advance payment in income in the year in which you receive it. Free state tax service However, you can use the alternative method, discussed next. Free state tax service Alternative method of reporting. Free state tax service   Under the alternative method, generally include an advance payment in income in the earlier tax year in which you: Include advance payments in gross receipts under the method of accounting you use for tax purposes, or Include any part of advance payments in income for financial reports under the method of accounting used for those reports. Free state tax service Financial reports include reports to shareholders, partners, beneficiaries, and other proprietors for credit purposes and consolidated financial statements. Free state tax service Example 1. Free state tax service You are a retailer. Free state tax service You use an accrual method of accounting and account for the sale of goods when you ship the goods. Free state tax service You use this method for both tax and financial reporting purposes. Free state tax service You can include advance payments in gross receipts for tax purposes in either: (a) the tax year in which you receive the payments; or (b) the tax year in which you ship the goods. Free state tax service However, see Exception for inventory goods, later. Free state tax service Example 2. Free state tax service You are a calendar year taxpayer. Free state tax service You manufacture household furniture and use an accrual method of accounting. Free state tax service Under this method, you accrue income for your financial reports when you ship the furniture. Free state tax service For tax purposes, you do not accrue income until the furniture has been delivered and accepted. Free state tax service In 2012, you received an advance payment of $8,000 for an order of furniture to be manufactured for a total price of $20,000. Free state tax service You shipped the furniture to the customer in December 2012, but it was not delivered and accepted until January 2013. Free state tax service For tax purposes, you include the $8,000 advance payment in gross income for 2012; and include the remaining $12,000 of the contract price in gross income for 2013. Free state tax service Information schedule. Free state tax service   If you use the alternative method of reporting advance payments, you must attach a statement with the following information to your tax return each year. Free state tax service Total advance payments received in the current tax year. Free state tax service Total advance payments received in earlier tax years and not included in income before the current tax year. Free state tax service Total payments received in earlier tax years included in income for the current tax year. Free state tax service Exception for inventory goods. Free state tax service   If you have an agreement to sell goods properly included in inventory, you can postpone including the advance payment in income until the end of the second tax year following the year you receive an advance payment if, on the last day of the tax year, you meet the following requirements. Free state tax service You account for the advance payment under the alternative method (discussed earlier). Free state tax service You have received a substantial advance payment on the agreement (discussed next). Free state tax service You have enough substantially similar goods on hand, or available through your normal source of supply, to satisfy the agreement. Free state tax service These rules also apply to an agreement, such as a gift certificate, that can be satisfied with goods that cannot be identified in the tax year you receive an advance payment. Free state tax service   If you meet these conditions, all advance payments you receive by the end of the second tax year, including payments received in prior years but not reported, must be included in income by the second tax year following the tax year of receipt of substantial advance payments. Free state tax service You must also deduct in that second year all actual or estimated costs for the goods required to satisfy the agreement. Free state tax service If you estimated the cost, you must take into account any difference between the estimate and the actual cost when the goods are delivered. Free state tax service Note. Free state tax service You must report any advance payments you receive after the second year in the year received. Free state tax service No further deferral is allowed. Free state tax service Substantial advance payments. Free state tax service   Under an agreement for a future sale, you have substantial advance payments if, by the end of the tax year, the total advance payments received during that year and preceding tax years are equal to or more than the total costs reasonably estimated to be includible in inventory because of the agreement. Free state tax service Example. Free state tax service You are a calendar year, accrual method taxpayer who accounts for advance payments under the alternative method. Free state tax service In 2008, you entered into a contract for the sale of goods properly includible in your inventory. Free state tax service The total contract price is $50,000 and you estimate that your total inventoriable costs for the goods will be $25,000. Free state tax service You receive the following advance payments under the contract. Free state tax service 2009 $17,500 2010 10,000 2011 7,500 2012 5,000 2013 5,000 2014 5,000 Total contract price $50,000   Your customer asked you to deliver the goods in 2015. Free state tax service In your 2010 closing inventory, you had on hand enough of the type of goods specified in the contract to satisfy the contract. Free state tax service Since the advance payments you had received by the end of 2010 were more than the costs you estimated, the payments are substantial advance payments. Free state tax service   For 2012, include in income all payments you received by the end of 2012, the second tax year following the tax year in which you received substantial advance payments. Free state tax service You must include $40,000 in sales for 2012 (the total amounts received from 2009 through 2012) and include in inventory the cost of the goods (or similar goods) on hand. Free state tax service If no such goods are on hand, then estimate the cost necessary to satisfy the contract. Free state tax service   No further deferral is allowed. Free state tax service You must include in gross income the advance payment you receive each remaining year of the contract. Free state tax service Take into account the difference between any estimated cost of goods sold and the actual cost when you deliver the goods in 2015. Free state tax service IRS approval. Free state tax service   You must file Form 3115 to obtain IRS approval to change your method of accounting for advance payments for sales. Free state tax service Expenses Under an accrual method of accounting, you generally deduct or capitalize a business expense when both the following apply. Free state tax service The all-events test has been met. Free state tax service The test is met when: All events have occurred that fix the fact of liability, and The liability can be determined with reasonable accuracy. Free state tax service Economic performance has occurred. Free state tax service Economic Performance Generally, you cannot deduct or capitalize a business expense until economic performance occurs. Free state tax service If your expense is for property or services provided to you, or for your use of property, economic performance occurs as the property or services are provided or the property is used. Free state tax service If your expense is for property or services you provide to others, economic performance occurs as you provide the property or services. Free state tax service Example. Free state tax service You are a calendar year taxpayer. Free state tax service You buy office supplies in December 2012. Free state tax service You receive the supplies and the bill in December, but you pay the bill in January 2013. Free state tax service You can deduct the expense in 2012 because all events have occurred to fix the liability, the amount of the liability can be determined, and economic performance occurred in 2012. Free state tax service Your office supplies may qualify as a recurring item, discussed later. Free state tax service If so, you can deduct them in 2012, even if the supplies are not delivered until 2013 (when economic performance occurs). Free state tax service Workers' compensation and tort liability. Free state tax service   If you are required to make payments under workers' compensation laws or in satisfaction of any tort liability, economic performance occurs as you make the payments. Free state tax service If you are required to make payments to a special designated settlement fund established by court order for a tort liability, economic performance occurs as you make the payments. Free state tax service Taxes. Free state tax service   Economic performance generally occurs as estimated income tax, property taxes, employment taxes, etc. Free state tax service are paid. Free state tax service However, you can elect to treat taxes as a recurring item, discussed later. Free state tax service You can also elect to ratably accrue real estate taxes. Free state tax service See chapter 5 of Publication 535 for information about real estate taxes. Free state tax service Other liabilities. Free state tax service   Other liabilities for which economic performance occurs as you make payments include liabilities for breach of contract (to the extent of incidental, consequential, and liquidated damages), violation of law, rebates and refunds, awards, prizes, jackpots, insurance, and warranty and service contracts. Free state tax service Interest. Free state tax service   Economic performance occurs with the passage of time (as the borrower uses, and the lender forgoes use of, the lender's money) rather than as payments are made. Free state tax service Compensation for services. Free state tax service   Generally, economic performance occurs as an employee renders service to the employer. Free state tax service However, deductions for compensation or other benefits paid to an employee in a year subsequent to economic performance are subject to the rules governing deferred compensation, deferred benefits, and funded welfare benefit plans. Free state tax service For information on employee benefit programs, see Publication 15-B, Employer's Tax Guide to Fringe Benefits. Free state tax service Vacation pay. Free state tax service   You can take a current deduction for vacation pay earned by your employees if you pay it during the year or, if the amount is vested, within 2½ months after the end of the year. Free state tax service If you pay it later than this, you must deduct it in the year actually paid. Free state tax service An amount is vested if your right to it cannot be nullified or cancelled. Free state tax service Exception for recurring items. Free state tax service   An exception to the economic performance rule allows certain recurring items to be treated as incurred during the tax year even though economic performance has not occurred. Free state tax service The exception applies if all the following requirements are met. Free state tax service The all-events test, discussed earlier, is met. Free state tax service Economic performance occurs by the earlier of the following dates. Free state tax service 8½ months after the close of the year. Free state tax service The date you file a timely return (including extensions) for the year. Free state tax service The item is recurring in nature and you consistently treat similar items as incurred in the tax year in which the all-events test is met. Free state tax service Either: The item is not material, or Accruing the item in the year in which the all-events test is met results in a better match against income than accruing the item in the year of economic performance. Free state tax service This exception does not apply to workers' compensation or tort liabilities. Free state tax service Amended return. Free state tax service   You may be able to file an amended return and treat a liability as incurred under the recurring item exception. Free state tax service You can do so if economic performance for the liability occurs after you file your tax return for the year, but within 8½ months after the close of the tax year. Free state tax service Recurrence and consistency. Free state tax service   To determine whether an item is recurring and consistently reported, consider the frequency with which the item and similar items are incurred (or expected to be incurred) and how you report these items for tax purposes. Free state tax service A new expense or an expense not incurred every year can be treated as recurring if it is reasonable to expect that it will be incurred regularly in the future. Free state tax service Materiality. Free state tax service   Factors to consider in determining the materiality of a recurring item include the size of the item (both in absolute terms and in relation to your income and other expenses) and the treatment of the item on your financial statements. Free state tax service   An item considered material for financial statement purposes is also considered material for tax purposes. Free state tax service However, in certain situations an immaterial item for financial accounting purposes is treated as material for purposes of economic performance. Free state tax service Matching expenses with income. Free state tax service   Costs directly associated with the revenue of a period are properly allocable to that period. Free state tax service To determine whether the accrual of an expense in a particular year results in a better match with the income to which it relates, generally accepted accounting principles (GAAP; visit www. Free state tax service fasab. Free state tax service gov/accepted. Free state tax service html) are an important factor. Free state tax service   For example, if you report sales income in the year of sale, but you do not ship the goods until the following year, the shipping costs are more properly matched to income in the year of sale than the year the goods are shipped. Free state tax service Expenses that cannot be practically associated with income of a particular period, such as advertising costs, should be assigned to the period the costs are incurred. Free state tax service However, the matching requirement is considered met for certain types of expenses. Free state tax service These expenses include taxes, payments under insurance, warranty, and service contracts, rebates, refunds, awards, prizes, and jackpots. Free state tax service Expenses Paid in Advance An expense you pay in advance is deductible only in the year to which it applies, unless the expense qualifies for the 12-month rule. Free state tax service Under the 12-month rule, a taxpayer is not required to capitalize amounts paid to create certain rights or benefits for the taxpayer that do not extend beyond the earlier of the following. Free state tax service 12 months after the right or benefit begins, or The end of the tax year after the tax year in which payment is made. Free state tax service If you have not been applying the general rule (an expense paid in advance is deductible only in the year to which it applies) and/or the 12-month rule to the expenses you paid in advance, you must get IRS approval before using the general rule and/or the 12-month rule. Free state tax service See Change in Accounting Method, later, for information on how to get IRS approval. Free state tax service See Expense paid in advance under Cash Method, earlier, for examples illustrating the application of the general and 12-month rules. Free state tax service Related Persons Business expenses and interest owed to a related person who uses the cash method of accounting are not deductible until you make the payment and the corresponding amount is includible in the related person's gross income. Free state tax service Determine the relationship for this rule as of the end of the tax year for which the expense or interest would otherwise be deductible. Free state tax service See section 267 of the Internal Revenue Code and Publication 542, Corporations, for the definition of related person. Free state tax service Inventories An inventory is necessary to clearly show income when the production, purchase, or sale of merchandise is an income-producing factor. Free state tax service If you must account for an inventory in your business, you must use an accrual method of accounting for your purchases and sales. Free state tax service However, see Exceptions, next. Free state tax service See also Accrual Method, earlier. Free state tax service To figure taxable income, you must value your inventory at the beginning and end of each tax year. Free state tax service To determine the value, you need a method for identifying the items in your inventory and a method for valuing these items. Free state tax service See Identifying Cost and Valuing Inventory, later. Free state tax service The rules for valuing inventory are not the same for all businesses. Free state tax service The method you use must conform to generally accepted accounting principles for similar businesses and must clearly reflect income. Free state tax service Your inventory practices must be consistent from year to year. Free state tax service The rules discussed here apply only if they do not conflict with the uniform capitalization rules of section 263A and the mark-to-market rules of section 475. Free state tax service Exceptions The following taxpayers can use the cash method of accounting even if they produce, purchase, or sell merchandise. Free state tax service These taxpayers can also account for inventoriable items as materials and supplies that are not incidental (discussed later). Free state tax service A qualifying taxpayer under Revenue Procedure 2001-10 on page 272 of Internal Revenue Bulletin 2001-2, available at www. Free state tax service irs. Free state tax service gov/pub/irs-irbs/irb01–02. Free state tax service pdf. Free state tax service A qualifying small business taxpayer under Revenue Procedure 2002-28, on page 815 of Internal Revenue Bulletin 2002-18, available at www. Free state tax service irs. Free state tax service gov/pub/irs-irbs/irb02–18. Free state tax service pdf. Free state tax service In addition to the information provided in this publication, you should see the revenue procedures referenced in the list, above, and the instructions for Form 3115 for information you will need to adopt or change to these accounting methods (see Changing methods, later). Free state tax service Qualifying taxpayer. Free state tax service   You are a qualifying taxpayer under Revenue Procedure 2001-10 only if: You satisfy the gross receipts test for each prior tax year ending on or after December 17, 1998 (see Gross receipts test for qualifying taxpayers, next). Free state tax service Your average annual gross receipts for each test year (explained in Step 1, listed next) must be $1 million or less. Free state tax service You are not a tax shelter as defined under section 448(d)(3) of the Internal Revenue Code. Free state tax service Gross receipts test for qualifying taxpayers. Free state tax service   To determine if you meet the gross receipts test for qualifying taxpayers, use the following steps: Step 1. Free state tax service List each of the test years. Free state tax service For qualifying taxpayers under Revenue Procedure 2001-10, the test years are each prior tax year ending on or after December 17, 1998. Free state tax service Step 2. Free state tax service Determine your average annual gross receipts for each test year listed in Step 1. Free state tax service Your average annual gross receipts for a tax year is determined by adding the gross receipts for that tax year and the 2 preceding tax years and dividing the total by 3. Free state tax service Step 3. Free state tax service You meet the gross receipts test for qualifying taxpayers if your average annual gross receipts for each test year listed in Step 1 is $1 million or less. Free state tax service Qualifying small business taxpayer. Free state tax service   You are a qualifying small business taxpayer under Revenue Procedure 2002-28 only if: You satisfy the gross receipts test for each prior tax year ending on or after December 31, 2000 (see Gross receipts test for qualifying small business taxpayers, next). Free state tax service Your average annual gross receipts for each test year (explained in Step 1, listed next) must be $10 million or less. Free state tax service You are not prohibited from using the cash method under section 448 of the Internal Revenue Code. Free state tax service Your principle business activity is an eligible business. Free state tax service See Eligible business, later. Free state tax service You have not changed (or have not been required to change) from the cash method because you became ineligible to use the cash method under Revenue Procedure 2002-28. Free state tax service Note. Free state tax service Revenue Procedure 2002-28 does not apply to a farming business of a qualifying small business taxpayer. Free state tax service A taxpayer engaged in the trade or business of farming generally is allowed to use the cash method for any farming business. Free state tax service See Special rules for farming businesses under Cash Method, earlier. Free state tax service Gross receipts test for qualifying small business taxpayers. Free state tax service   To determine if you meet the gross receipts test for qualifying small business taxpayers, use the following steps: Step 1. Free state tax service List each of the test years. Free state tax service For qualifying small business taxpayers under Revenue Procedure 2002-28, the test years are each prior tax year ending on or after December 31, 2000. Free state tax service Step 2. Free state tax service Determine your average annual gross receipts for each test year listed in Step 1. Free state tax service Your average annual gross receipts for a tax year is determined by adding the gross receipts for that tax year and the 2 preceding tax years and dividing the total by 3. Free state tax service Step 3. Free state tax service You meet the gross receipts test for qualifying small business taxpayers if your average annual gross receipts for each test year listed in Step 1 is $10 million or less. Free state tax service Eligible business. Free state tax service   An eligible business is any business for which a qualified small business taxpayer can use the cash method and choose to not keep an inventory. Free state tax service You have an eligible business if you meet any of the following requirements. Free state tax service Your principal business activity is described in a North American Industry Classification System (NAICS) code other than any of the following NAICS subsector codes: NAICS codes 211 and 212 (mining activities). Free state tax service NAICS codes 31-33 (manufacturing). Free state tax service NAICS code 42 (wholesale trade). Free state tax service NAICS codes 44-45 (retail trade). Free state tax service NAICS codes 5111 and 5122 (information industries). Free state tax service Your principal business activity is the provision of services, including the provision of property incident to those services. Free state tax service Your principal business activity is the fabrication or modification of tangible personal property upon demand in accordance with customer design or specifications. Free state tax service   Information about the NAICS codes can be found at http://www. Free state tax service census. Free state tax service gov/naics or in the instructions for your federal income tax return. Free state tax service Gross receipts. Free state tax service   In general, gross receipts must include all receipts from all your trades or businesses that must be recognized under the method of accounting you used for that tax year for federal income tax purposes. Free state tax service See the definit
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Contact My Local Office in Mississippi

Face-to-face Tax Help

IRS Taxpayer Assistance Centers (TACs) are your source for personal tax help when you believe your tax issue can only be handled face-to-face. No appointment is necessary.

Keep in mind, many questions can be resolved online without waiting in line. Through IRS.gov you can:
• Set up a payment plan.
• Get a transcript of your tax return.
• Make a payment.
• Check on your refund.
• Find answers to many of your tax questions.

We are now referring all requests for tax return preparation services to other available resources. You can take advantage of free tax preparation through Free File, Free File Fillable Forms or through a volunteer site in your community. To find the nearest volunteer site location or to get more information about Free File, go to the top of the page and enter “Free Tax Help” in the Search box.

If you have a tax account issues and feel that it requires talking with someone face-to-face, visit your local TAC.

Caution:  Many of our offices are located in Federal Office Buildings. These buildings may not allow visitors to bring in cell phones with camera capabilities.

Multilingual assistance is available in every office. Hours of operation are subject to change.

Before visiting your local office click on "Services Provided" in the chart below to see what services are available. Services are limited and not all services are available at every TAC office and may vary from site to site. You can get these services on a walk-in basis.

City  Street Address  Days/Hours of Service  Telephone* 
Clarksdale  Third & Sharkey Ave.
Clarksdale, MS 38614 

Tuesdays 9:30 a.m.- 2:30 p.m.
(Closed for lunch 12:00 noon - 1:00 p.m.)


Services Provided

(662) 627-9101
Columbus  2209 Fifth St. N.
Columbus, MS 39705 

Monday-Friday - 8:30 a.m.- 4:30 p.m.
(Closed for lunch 12:00 noon - 1:00 p.m.)


Services Provided

(662) 328-6957
Gulfport  11309 Old Highway 49
Gulfport, MS 39503 

Monday-Friday - 8:30a.m - 4:30 p.m.
(Closed for lunch 12:00 noon - 1:00 p.m.)

 

Services Provided

(228) 831-3320
Hattiesburg  701 North Main St.
Hattiesburg, MS 39401 

Monday-Friday - 8:30 a.m.- 4:30 p.m.
(Closed for lunch 12:00 noon. - 1:00 p.m.)


Services Provided

(601) 264-7991
Jackson  100 W. Capital St.
Jackson, MS 39269 

Monday-Friday - 8:30 a.m.- 4:30 p.m.

 

**This office will be open until 6:00 p.m. on 4/14 & 4/15**


Services Provided

(601) 292-4711
Tupelo  111 E. Troy Street
Tupelo, MS 38804 

Monday-Friday - 8:30 a.m.- 4:30 p.m.
(Closed for lunch 11:00 a.m. - 12:00 noon)

 

**This office will be open until 6:00 p.m. on 4/14 & 4/15**

 

Services Provided

(662) 842-5870

* Note: The phone numbers in the chart above are not toll-free for all locations. When you call, you will reach a recorded business message with information about office hours, locations and services provided in that office. If face-to-face assistance is not a priority for you, you may also get help with IRS letters or resolve tax account issues by phone, toll free at 1-800-829-1040 (individuals) or 1-800-829-4933 (businesses).

For information on where to file your tax return please see Where to File Addresses.

The Taxpayer Advocate Service: Call (601) 292-4800 in Jackson or 1-877-777-4778 elsewhere, or see  Publication 1546, The Taxpayer Advocate Service of the IRS.

For further information, see  Tax Topic 104

Partnerships

IRS and organizations all over the country are partnering to assist taxpayers. Through these partnerships, organizations are also achieving their own goals. These mutually beneficial partnerships are strengthening outreach efforts and bringing education and assistance to millions.

For more information about these programs for individuals and families, contact the Stakeholder Partnerships, Education and Communication Office at:

Internal Revenue Service
100 W. Capitol Street, Stop 50
Jackson, MS 39269

For more information about these programs for businesses, your local Stakeholder Liaison office establishes relationships with organizations representing small business and self-employed taxpayers. They provide information about the policies, practices and procedures the IRS uses to ensure compliance with the tax laws. To establish a relationship with us, use this list to find a contact in your state:

Stakeholder Liaison (SL) Phone Numbers for Organizations Representing Small Businesses and Self-employed Taxpayers.

Page Last Reviewed or Updated: 28-Mar-2014

The Free State Tax Service

Free state tax service Publication 584 - Additional Material Table of Contents This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Entrance Hall This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Living Room This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Dining Room This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Kitchen This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Den This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Bedrooms This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Bathrooms This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Recreation Room This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Laundry and Basement This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Garage This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Sporting Equipment This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Men's Clothing This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Women's Clothing This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Children's Clothing This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Jewelry This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Electrical Appliances This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Linens This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Miscellaneous This image is too large to be displayed in the current screen. Free state tax service Please click the link to view the image. Free state tax service Motor Vehicles Schedule 20. Free state tax service Home (Excluding Contents) Note. Free state tax service If you used the entire property as your home, fill out only column (a). Free state tax service If you used part of the property as your home and part of it for business or to produce rental income, you must allocate the entries on lines 2-9 between the personal part (column (a)) and the business/rental part (column (b)). Free state tax service 1. Free state tax service Description of property (Show location and date acquired. Free state tax service )     (a)  Personal Part (b)  Business/Rental Part 2. Free state tax service Cost or other (adjusted) basis of property (from Worksheet A)     3. Free state tax service Insurance or other reimbursement Note. Free state tax service If line 2 is more than line 3, skip line 4. Free state tax service If line 3 is more than line 2, you exclude gain, and the gain is more than you can exclude, see the instructions for line 3 in the Instructions for Form 4684 for the amount to enter. Free state tax service     4. Free state tax service Gain from casualty. Free state tax service If line 3 is more than line 2, enter the difference here and skip lines 5 through 9. Free state tax service But see Next below line 9. Free state tax service     5. Free state tax service Fair market value before casualty     6. Free state tax service Fair market value after casualty     7. Free state tax service Decrease in fair market value. Free state tax service Subtract line 6 from line 5. Free state tax service     8. Free state tax service Enter the smaller of line 2 or line 7 Note for business/rental part. Free state tax service If the property was totally destroyed by casualty, enter on line 8, column (b) the amount from line 2, column (b). Free state tax service     9. Free state tax service Subtract line 3 from line 8. Free state tax service If zero or less, enter -0-. Free state tax service     Next: Transfer the entries from line 1 and lines 2-9, column (a), above to the corresponding lines on Form 4684, Section A. Free state tax service Transfer the entries from line 1 and lines 2-9, column (b), to the corresponding lines on Form 4684, Section B. Free state tax service Worksheet A. Free state tax service Cost or Other (Adjusted) Basis Caution. Free state tax service See the Worksheet A Instructions before you use this worksheet. Free state tax service         (a) Personal Part (b) Business/Rental Part 1. Free state tax service   Enter the purchase price of the home damaged or destroyed. Free state tax service (If you filed Form 2119 when you originally acquired that home to postpone gain on the sale of a previous home before May 7, 1997, enter the adjusted basis of the new home from that Form 2119. Free state tax service ) 1. Free state tax service     2. Free state tax service   Seller paid points for home bought after 1990. Free state tax service Do not include any seller-paid points you already subtracted to arrive at the amount entered on line 1 2. Free state tax service     3. Free state tax service   Subtract line 2 from line 1 3. Free state tax service     4. Free state tax service   Settlement fees or closing costs. Free state tax service (See Settlement costs in Publication 551. Free state tax service ) If line 1 includes the adjusted basis of the new home from Form 2119, skip lines 4a-4g and 5; go to line 6. Free state tax service         a. Free state tax service Abstract and recording fees 4a. Free state tax service       b. Free state tax service Legal fees (including fees for title search and preparing documents) 4b. Free state tax service       c. Free state tax service Survey fees 4c. Free state tax service       d. Free state tax service Title insurance 4d. Free state tax service       e. Free state tax service Transfer or stamp taxes 4e. Free state tax service       f. Free state tax service Amounts that the seller owed that you agreed to pay (back taxes or interest, recording or mortgage fees, and sales commissions) 4f. Free state tax service       g. Free state tax service Other 4g. Free state tax service     5. Free state tax service   Add lines 4a through 4g 5. Free state tax service     6. Free state tax service   Cost of additions and improvements. Free state tax service (See Increases to Basis in Publication 551. Free state tax service ) Do not include any additions and improvements included on line 1 6. Free state tax service     7. Free state tax service   Special tax assessments paid for local improvements, such as streets and sidewalks 7. Free state tax service     8. Free state tax service   Other increases to basis 8. Free state tax service     9. Free state tax service   Add lines 3, 5, 6, 7, and 8 9. Free state tax service     10. Free state tax service   Depreciation allowed or allowable, related to the business use or rental of the home 10. Free state tax service 0   11. Free state tax service   Other decreases to basis (See Decreases to Basis in Publication 551. Free state tax service ) 11. Free state tax service     12. Free state tax service   Add lines 10 and 11 12. Free state tax service     13. Free state tax service   Cost or other (adjusted) basis of home damaged or destroyed. Free state tax service Subtract line 12 from line 9. Free state tax service Enter here and on Schedule 20, line 2 13. Free state tax service     Worksheet A Instructions. Free state tax service If you use Worksheet A to figure the cost or other (adjusted) basis of your home, follow these instructions. Free state tax service DO NOT use this worksheet to determine your basis if you acquired an interest in your home from a decedent who died in 2010 and whose executor filed Form 8939. Free state tax service IF. Free state tax service . Free state tax service . Free state tax service   THEN. Free state tax service . Free state tax service . Free state tax service you inherited your home from a decedent who died either before or after 2010 or from a decedent who died in 2010 and whose executor did not file Form 8939. Free state tax service 1 skip lines 1–4 of the worksheet. Free state tax service 2 find your basis using the rules under Inherited Property in Publication 551. Free state tax service Enter this amount on line 5 of the worksheet. Free state tax service 3 fill out lines 6–13 of the worksheet. Free state tax service you received your home as a gift 1 read Property Received as a Gift in Publication 551 and enter on lines 1 and 3 of the worksheet either the donor's adjusted basis or the home's fair market value at the time of the gift, whichever is appropriate. Free state tax service 2 if you can add any federal gift tax to your basis, enter that amount on line 5 of the worksheet. Free state tax service 3 fill out the rest of the worksheet. Free state tax service you received your home as a trade for other property 1 enter on line 1 of the worksheet the fair market value of the other property at the time of the trade. Free state tax service (But if you received your home as a trade for your previous home before May 7, 1997, and had a gain on the trade that you postponed using Form 2119, enter on line 1 of the worksheet the adjusted basis of the new home from that Form 2119. Free state tax service ) 2 fill out the rest of the worksheet. Free state tax service you built your home 1 add the purchase price of the land and the cost of building the home. Free state tax service Enter that total on line 1 of the worksheet. Free state tax service (However, if you filed a Form 2119 to postpone gain on the sale of a previous home before May 7, 1997, enter on line 1 of the worksheet the adjusted basis of the new home from that Form 2119. Free state tax service ) 2 fill out the rest of the worksheet. Free state tax service you received your home from your spouse after July 18, 1984 1 skip lines 1–4 of the worksheet. Free state tax service 2 enter on line 5 of the worksheet your spouse's cost or other (adjusted) basis in the home just before you received it. Free state tax service 3 fill out lines 6–13 of the worksheet, making adjustments to basis only for events after the transfer. Free state tax service you owned a home jointly with your spouse, who transferred his or her interest in the home to you after July 18, 1984     fill out one worksheet, making adjustments to basis for events both before and after the transfer. Free state tax service   you received your home from your spouse before July 19, 1984 1 skip lines 1–4 of the worksheet. Free state tax service 2 enter on line 5 of the worksheet the home's fair market value at the time you received it. Free state tax service 3 fill out lines 6–13 of the worksheet, making adjustments to basis only for events after the transfer. Free state tax service you owned a home jointly with your spouse, and your spouse transferred his or her interest in the home to you before July 19, 1984 1 fill out a worksheet, lines 1–13, making adjustments to basis only for events before the transfer. Free state tax service 2 multiply the amount on line 13 of that worksheet by 50% (0. Free state tax service 50) to get the adjusted basis of your half-interest at the time of the transfer. Free state tax service 3 multiply the fair market value of the home at the time of the transfer by 50% (0. Free state tax service 50). Free state tax service Generally, this is the basis of the half-interest that your spouse owned. Free state tax service 4 add the amounts from steps 2 and 3 and enter the total on line 5 of a second worksheet. Free state tax service 5 complete lines 6–13 of the second worksheet, making adjustments to basis only for events after the transfer. Free state tax service you owned your home jointly with a nonspouse 1 fill out lines 1–13 of the worksheet. Free state tax service 2 multiply the amount on line 13 by your percentage of ownership to get the adjusted basis of your part-interest. Free state tax service Worksheet A Instructions. Free state tax service (Continued) IF. Free state tax service . Free state tax service . Free state tax service   THEN. Free state tax service . Free state tax service . Free state tax service you owned your home jointly with your spouse who died before 2010 and before the casualty 1 fill out a worksheet, lines 1–13, including adjustments to basis only for events before your spouse's death. Free state tax service 2 multiply the amount on line 13 of that worksheet by 50% (0. Free state tax service 50) to get the adjusted basis of your half-interest on the date of death. Free state tax service 3 figure the basis for the half-interest owned by your spouse. Free state tax service This is one-half of the fair market value on the date of death (or later alternate valuation used for estate or inheritance tax). Free state tax service (The basis in your half will remain one-half of the adjusted basis determined in step 2. Free state tax service ) 4 add the amounts from steps 2 and 3 and enter the total on line 5 of a second worksheet. Free state tax service 5 complete lines 6–13 of the second worksheet, making adjustments to basis only for events after your spouse's death. Free state tax service you owned your home jointly with your spouse who died before 2010 and before the casualty, and your permanent legal home is in a community property state 1 skip lines 1–4 of the worksheet. Free state tax service 2 enter the amount of your basis on line 5 of the worksheet. Free state tax service Generally, this is the fair market value of the home at the time of death. Free state tax service (But see Community Property in Publication 551 for special rules. Free state tax service ) 3 fill out lines 6–13 of the worksheet, making adjustments to basis only for events after your spouse's death. Free state tax service you owned your home jointly with a nonspouse who died before 2010 and before the casualty 1 fill out lines 1–13 of the worksheet, including adjustments to basis only for events before the co-owner's death. Free state tax service 2 multiply the amount on line 13 by your percentage of ownership to get the adjusted basis of your part-interest on the date of death. Free state tax service 3 multiply the fair market value on the date of death (or later alternate valuation used for estate or inheritance tax) by the co-owner's percentage of ownership. Free state tax service This is the basis for the co-owner's part-interest. Free state tax service 4 add the amounts from steps 2 and 3 and enter the total on line 5 of a second worksheet. Free state tax service 5 complete lines 6–13 of the second worksheet, including adjustments to basis only for events after the co-owner's death. Free state tax service your home was ever damaged as a result of a prior casualty 1 on line 8 of the worksheet, enter any amounts you spent to restore the home to its condition before the prior casualty. Free state tax service 2 on line 11 enter: any insurance reimbursements you received (or expect to receive) for the prior loss,  and any deductible casualty losses from prior years not covered by insurance. Free state tax service the person who sold you your home paid points on your loan and you bought your home after 1990 but before April 4, 1994. Free state tax service   on line 2 enter the seller-paid points only if you deducted them as home mortgage interest in the year paid (unless you used the seller-paid points to reduce the amount on line 1). Free state tax service the person who sold you your home paid points on your loan and you bought your home after April 3, 1994   on line 2 enter the seller-paid points even if you did not deduct them (unless you used the seller-paid points to reduce the amount on line 1). Free state tax service you used part of the property as your home and part of it for business or to produce rental income   you must allocate the entries on Worksheet A between the personal part (column (a)) and the business/rental part (column (b)). Free state tax service none of these items apply   fill out the entire worksheet. Free state tax service Prev  Up  Next   Home   More Online Publications