Doctrine of Cash Equivalence

The Doctrine of Cash Equivalence states that the U.S. Federal income tax law treats certain non-cash payment transactions like cash payment transactions for federal income tax purposes.1 The doctrine is used most often for deciding when cash method (as opposed to accrual method) taxpayers are to include certain non-cash income items. Another doctrine often used when trying to determine the timing of the inclusion of income is the constructive receipt doctrine.2

Most individuals begin as cash method taxpayers because their first form of bookkeeping is a checkbook.3 In contrast, some businesses start as accrual method taxpayers because businesses use different rules for recording income and expenditures.4 The Internal Revenue Code (IRC) §446(a) states, however, that “ [t] axable income shall be computed under the method of accounting on the basis which the taxpayer regularly computes his income in keeping his books.”

One of the major advantages to the cash method of accounting is the ability to defer taxation because the recognition of income applicable to amounts in accounts receivable can be deferred to a later year.5 The Doctrine of Cash Equivalence is important because many people are cash method taxpayers and would be subject to this rule.

Elements of the Cash Equivalence Doctrine

Cash method taxpayers include income items (cash and cash equivalents) in the year the items are received.6 Certain payment transactions involve cash equivalents, such as receipts of checks and credit card payments. The cash equivalence doctrine arose out of a need to determine whether certain items that were either actually or constructively received must be accured as income. A dispute over timing of income recognition for tax purposes may arise when the thing received is really not much more than a promise of payment, such as a promissory note or a bond. If mere promises to pay were considered cash equivalents, then there would be little difference between the cash and accrual methods for tax purposes.7

The United States Court of Appeals for the Fifth Circuit established the standard for applying the cash equivalence doctrine to promises of payment.8 The court first noted that the principle that “ [a] promissory note, negotiable in form, is not necessarily the equivalent of cash” remains true.9 But that principle also has a true inverse—that a non-negotiable instrument can be a cash equivalent if the following factors are met.10 A promise to pay will be considered a cash equivalent for cash method taxpayers if

(1) the promise to pay is unconditional;
(2) the promise is made by a solvent person;
(3) the promise is assignable;
(4) the promise is not subject to set-offs; and
(5) the promise is marketable 11

Since taxpayers generally prefer to defer recognition of income to subsequent tax years (due to the time value of money), a finding of cash equivalence will typically be to the disadvantage of the individual taxpayer.

The Mechanics of the Cash Equivalence Doctrine

In order to use the doctrine of cash equivalence, a taxpayer must either have (1) have actually received an item, or (2) constructively received an item. If either of these situations exist, a taxpayer must determine whether the item received is cash equivalence, using the six factors described in Cowden v. Commissioner. If the item is deemed cash equivalent, then the taxpayer has income. If it is not cash equivalent, the taxpayer does not have income.

References

1. Samuel A. Donaldson, "Federal Income Taxation of Individuals: Cases, Problems and Materials", 364 (2nd Ed. 2007).
2. "Id". at 353.
3. "Id". at 351.
4. "Id".
5. "Id". at 352
6. "Id". at 353. See also Treas. Reg. § 1.446-1(c)(i).
7. "Id". at 364.
8. "See" "Cowden v. Commissioner", 289 F.2d 20 (5th Cir. 1961).
9. "Id". at 24.
10. "Id".
11. "Id".


Wikimedia Foundation. 2010.

Look at other dictionaries:

  • Doctrine of cash equivalence — Part of a series on Taxation Taxation in the United States …   Wikipedia

  • Comparison of cash and accrual methods of accounting — Accountancy Key concepts Accountant · Accounting period · Bookkeeping · Cash and accrual basis · Cash flow management · Chart of accounts  …   Wikipedia

  • Comparison of Cash Method and Accrual Method of accounting — A comparison of the two primary accounting methods (Cash method and Accrual method) used to calculate taxable income for U.S. Federal income taxes. According to the Internal Revenue Code, a taxpayer may compute taxable income under the following… …   Wikipedia

  • Constructive receipt — Part of a series on Taxation Taxation in the United States …   Wikipedia

  • Installment Sales Method — Installment Sale MethodThe installment sale method is an alternative to the cash method vs accrual method debate of accounting. The installment sale method allows the taxpayer to defer the inclusion of income until the payments is made in cash or …   Wikipedia

  • Gross income — is commonly defined as the amount of a company s or a person s income before all deductions or any taxpayer’s income, except that which is specifically excluded by the Internal Revenue Code, before taking deductions or taxes into account. For a… …   Wikipedia

  • Europe, history of — Introduction       history of European peoples and cultures from prehistoric times to the present. Europe is a more ambiguous term than most geographic expressions. Its etymology is doubtful, as is the physical extent of the area it designates.… …   Universalium

  • ENTREPRISE - Gestion — Si toutes les entreprises peuvent se définir comme des unités élémentaires de production, le concept d’«entreprise» couvre des dimensions, des statuts et des structures singulièrement divers. Le vocable est ambigu: il vise ou visait encore voici… …   Encyclopédie Universelle

  • literature — /lit euhr euh cheuhr, choor , li treuh /, n. 1. writings in which expression and form, in connection with ideas of permanent and universal interest, are characteristic or essential features, as poetry, novels, history, biography, and essays. 2.… …   Universalium

  • Monetary-disequilibrium theory — is basically a product of the Monetarist school mainly represented in the works of Leland Yeager and Austrian macroeconomics. The basic concept of monetary equilibrium(disequilibrium) was however defined in terms of an individual s demand for… …   Wikipedia


Share the article and excerpts

Direct link
Do a right-click on the link above
and select “Copy Link”

We are using cookies for the best presentation of our site. Continuing to use this site, you agree with this.