Glass Bottle Coffee Company is a calendar year, accrual-basis taxpayer. On October 1, 2019, Glass Bottle sold a 24-month subscription contract for $2,400. The client paid the full amount in cash. Under the contract, Glass Bottle delivers 20oz of fresh, artistically roasted coffee beans to the client on the 15th of every month. The service periods cover October 1, 2019 to September 30, 2020. For tax purposes, if Glass Bottle wants to defer income recognition (to the extent allowed by tax law), how much income should it recognize in 2019?
Answered on
As Glass Bottle Coffee Company is an accrual-basis taxpayer, they generally must recognize income when it is earned, regardless of when payment is received. However, for tax purposes, there are certain situations in which they can defer income recognition to a certain extent.
Given that the company sold a 24-month subscription for $2,400, the monthly subscription income is $100 ($2,400 divided by 24 months). Since the subscription service starts from October 1, 2019, and for the 2019 tax year, there are only three months of service being provided (October, November, December).
Therefore, for the 2019 tax year, Glass Bottle should recognize the subscription income for these three months. For each month, they should recognize $100, so for three months, this would be a total of $300 ($100 x 3 months).
Even though the client paid the full amount up front, according to IRS regulations for accrual-basis taxpayers, only income that is earned during the tax year should be recognized for that year. Hence, the income that should be recognized in 2019 is $300.