Close
Close

Sales incentive payments fail all-events test

RFP
Tax Hot Topics newsletter The IRS ruled in a technical advice memorandum (TAM 202121010) that a taxpayer’s promise to pay a guaranteed minimum sales incentive to its distributors was not deductible under the all-events test in the year the promise was made because the guaranteed payment was contingent on the distributors selling at least one of the taxpayer’s units in a subsequent year.

Section 461(h) and Treas. Reg. Sec. 1.461-1(a)(2)(i) provide that, for an accrual method taxpayer, a liability is incurred, and is generally taken into account in the year in which all events have occurred that (1) establish the fact of the liability, (2) the amount of the liability can be determined with reasonable accuracy, and (3) economic performance has occurred with respect to the liability. Collectively, this rule is referred to as the all-events test.

A taxpayer may not deduct a contingent liability (Brown v. Helvering, 13 AFTR 851). The all-events test is based on the existence or nonexistence of legal rights or obligations at the close of a particular accounting period, not on the probability – or even absolute certainty – that such right or obligation will arise at some point in the future (Hallmark Cards, Inc. v. Commissioner, 90 T.C. 26, 34).

The taxpayer addressed by the technical advice memorandum sold its products through third-party distributors that were paid commissions based on their sales of the taxpayer’s product. The taxpayer, in an effort to encourage additional purchases by its distributors, made an irrevocable promise to pay a guaranteed minimum sales incentive if (among other requirements) a distributor sold at least one unit of the taxpayer’s product in the year subsequent to the year in which the taxpayer made the irrevocable promise.

The taxpayer was not under a fixed obligation to pay the guaranteed minimum incentive amount in the year in which the irrevocable promise was made by the taxpayer. The taxpayer’s obligation was not fixed because it was contingent upon the sales activity of the distributor in the year subsequent to the year of promise. Accordingly, taxpayer did not meet the all-events test, and consequently, the guaranteed minimum incentive amounts were not deductible in the year the taxpayer made the irrevocable promise.

Contact:
Don Reiris
Managing Director
Metropark, N.J. Office
T +1 732 516 5539

Tax professional standards statement
This content supports Grant Thornton LLP’s marketing of professional services and is not written tax advice directed at the particular facts and circumstances of any person. If you are interested in the topics presented herein, we encourage you to contact us or an independent tax professional to discuss their potential application to your particular situation. Nothing herein shall be construed as imposing a limitation on any person from disclosing the tax treatment or tax structure of any matter addressed herein. To the extent this content may be considered to contain written tax advice, any written advice contained in, forwarded with or attached to this content is not intended by Grant Thornton LLP to be used, and cannot be used, by any person for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.

The information contained herein is general in nature and is based on authorities that are subject to change. It is not, and should not be construed as, accounting, legal or tax advice provided by Grant Thornton LLP to the reader. This material may not be applicable to, or suitable for, the reader’s specific circumstances or needs and may require consideration of tax and nontax factors not described herein. Contact Grant Thornton LLP or other tax professionals prior to taking any action based upon this information. Changes in tax laws or other factors could affect, on a prospective or retroactive basis, the information contained herein; Grant Thornton LLP assumes no obligation to inform the reader of any such changes. All references to “Section,” “Sec.,” or “§” refer to the Internal Revenue Code of 1986, as amended.