rr-11-29.pdf

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Part I

Section 461.-- General Rule for Taxable Year of Deduction

26 CFR 1.461-1: General rule for taxable year of deduction.

Rev. Rul. 2011-29

ISSUE

Can an employer establish the “fact of the liability” under § 461 of the Internal
Revenue Code for bonuses payable to a group of employees if the employer does not
know the identity of any particular bonus recipient and the amount payable to that
recipient until after the end of the taxable year?
FACTS

X
uses an accrual method of accounting for federal income tax purposes. X pays
bonuses to a group of employees pursuant to a program that defines the terms and
conditions under which the bonuses are paid for a taxable year. X communicates the
general terms of the bonus program to employees when they become eligible and
whenever the program is changed.
Under the program, bonuses are paid to X’s employees for services performed
during the taxable year. The minimum total amount of bonuses payable under the
program to X
’s employees as a group is determinable either (a) through a formula that

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is fixed prior to the end of the taxable year, taking into account financial data reflecting
results as of the end of that taxable year, or (b) through other corporate action, such as
a resolution of X
’s board of directors or compensation committee, made before the end
of the taxable year, that fixes the bonuses payable to the employees as a group. To be
eligible for a bonus, an employee must perform services during the taxable year and be
employed on the date that X
pays bonuses. Under the program, bonuses are paid after
the end of the taxable year in which the employee performed the related services but
before the 15th day of the 3rd calendar month after the close of that taxable year.
Under the program, any bonus amount allocable to an employee who is not
employed on the date on which X
pays bonuses is reallocated among other eligible
employees. Thus, the aggregate minimum amount of bonuses X pays to its group of
eligible employees is not reduced by the departure of an employee after the end of the
taxable year but before bonuses are paid for that year.
LAW

Section 461(a) provides that the amount of any deduction or credit must be taken for
the taxable year that is the proper taxable year under the method of accounting the
taxpayer uses to compute taxable income.
Section 1.461-1(a)(2)(i) of the Income Tax Regulations provides that, under an
accrual method of accounting, a liability is incurred, and is generally taken into account
for federal income tax purposes, in the taxable year in which (1) all the events have
occurred that establish the fact of the liability, (2) the amount of the liability can be
determined with reasonable accuracy, and (3) economic performance has occurred for

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the liability (collectively, the “all events test”). See also
§ 1.446-1(c)(1)(ii)(A). This
revenue ruling addresses only whether the first prong of the all events test is met.
The first prong of the all events test requires that all the events have occurred that
establish the fact of the liability. Generally, all events occur to establish the fact of a
liability when (1) the event fixing the liability, whether that be the required performance
or other event, occurs, or (2) payment is unconditionally due. Rev. Rul. 2007-3, 2007-1
C.B. 350; Rev. Rul. 80-230, 1980-2 C.B. 169; Rev. Rul. 79-410, 1979-2 C.B. 213,
amplified by Rev. Rul. 2003-90, 2003-2 C.B. 353. Although an expense may be
deductible before it is due and payable, liability for the expense first must be firmly
established. United States v. General Dynamics Corp.
, 481 U.S. 239, 243-4 (1987).
In Washington Post Co. v. United States, 405 F.2d 1279 (Ct. Cl. 1969), the United
States Court of Claims held that a taxpayer incurred a liability to pay bonuses under a
plan maintained for the benefit of its circulation dealers as a group. Under the plan, if a
dealer did not meet certain specified conditions, a portion of the dealer’s share would be
forfeited and reallocated to other dealers. Thus, even though the amount and time of
actual payout to individual recipients were, at least in part, not determined, the court
held that the total amount of the liability was fixed at the end of the taxable year. In
Rev. Rul. 76-345, 1976-2 C.B. 134, the Internal Revenue Service announced that it
would not follow Washington Post
in similar cases.
In United States v. Hughes Properties, Inc., 476 U.S. 593 (1986), the Supreme Court
allowed a casino operator to deduct amounts guaranteed for payment of progressive
slot machine jackpots that had not yet been won by casino patrons. The Court
reasoned that the taxpayer had a fixed obligation to pay the guaranteed amounts, and

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that the identification of the eventual recipients of the progressive jackpots was
inconsequential. The Court noted that “[t]he obligation is there, and whether it turns out
that the winner is one patron or another makes no conceivable difference as to basic
liability.” Hughes Properties, 476 U.S. at 602.
ANALYSIS
X’s liability to pay a minimum amount of bonuses to the group of eligible employees
is fixed at the end of the year in which the services are rendered. X is obligated under
the program to pay to the group the minimum amount of bonuses determined by the
end of the taxable year. Any bonus allocable to an employee who is not employed on
the date on which bonuses are paid is reallocated to other eligible employees. Thus,
the fact of X
’s liability for the minimum amount of bonuses is established by the end of
the year in which the services are rendered. See
Rev. Rul. 55-446, 1955-2 C.B. 531, as
modified by Rev. Rul. 61-127, 1961-2 C.B. 36 (holding that bonuses payable to
ascertainable employees under an incentive compensation plan that has been
communicated to the employees, the exact amounts of which are determinable through
a formula in effect prior to the end of the taxable year, are properly accruable for
Federal income tax purposes for the year to which they relate). This is true even though
the identity of the ultimate recipients and the amount, if any, each employee will receive
cannot be determined prior to the end of the taxable year. See
Hughes Properties,
supra. Accordingly, for purposes of the first prong of the all events test under § 1.461-
1(a)(2)(i), all the events have occurred by the end of the taxable year that establish the
fact of X’s liability to pay the minimum amount of bonuses.
HOLDING

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An employer can establish the “fact of the liability” under § 461 for bonuses payable
to a group of employees even though the employer does not know the identity of any
particular bonus recipient and the amount payable to that recipient until after the end of
the taxable year.
APPLICATION

Any change in a taxpayer's treatment of bonuses to conform with this revenue ruling
is a change in method of accounting that must be made in accordance with §§ 446 and
481, the regulations thereunder, and the applicable administrative procedures. See
section 19.01(2) of the APPENDIX of Rev. Proc. 2011-14, 2011-4 I.R.B. 330, 403.
EFFECT ON OTHER DOCUMENTS

Rev. Rul. 76-345 is revoked.
DRAFTING INFORMATION

The principal author of this revenue ruling is Jason D. Kristall of the Office of
Associate Chief Counsel (Income Tax and Accounting). For further information
regarding this revenue ruling, contact Mr. Kristall at (202) 622-5020 (not a toll-free call).