Revenue Procedure 99-26

Part III. Administrative, Procedural, and Miscellaneous
26 CFR 1.404(b)–1T: Method of contribution, etc.,
having the effect of a plan; effect of section 404(b).
(Also Part I, sections 83(h), 404(a)(5), 404(a)(11),
404(b); 1.83–6, 1.162–10.)

Rev. Proc. 99–26
SECTION 1. PURPOSE
This revenue procedure provides alternative 50-percent settlement options to
settle cases in which taxpayers accelerated deductions for accrued employee
benefits secured by a letter of credit,
bond, or other similar financial instrument. The purpose of this settlement initiative is to provide options for taxpayers
and the Service to expeditiously resolve
these cases, particularly in light of the recent legislative change that specifically
precludes taxpayers from using these
types of financial instruments to accelerate deductions for accrued employee benefits in the future. Settlement of these
cases will relieve both taxpayers and the
Service from the burdens associated with
further development or litigation of the
cases in the future.
SECTION 2. BACKGROUND
.01 Section 404(a)(5) and the regulations thereunder provide that deferred vacation pay is deductible in the taxable
year in which it is paid to the employee
and that other deferred benefits are deductible in the taxable year in which or
with which ends the employee’s taxable
year in which the benefits are includible
in gross income. (Special rules, not relevant to these cases, apply to compensation provided through a qualified plan or
deferred benefits provided through a welfare benefit fund.)
.02 Section 1.404(b)–1T, Q&A-2 provides that compensation and benefits are
considered deferred to the extent they are
received by the employees more than 21⁄2
months after the end of the employer’s
taxable year in which the related services
are performed.
.03 Certain taxpayers have deducted
for a taxable year the unpaid portion of
accrued vacation pay and other benefits
that the taxpayers secured during the first
21⁄2 months of the following taxable year
by purchasing a letter of credit, bond, or

June 14, 1999

other similar financial instrument. Taxpayers argue that the securitization constitutes a transfer of property pursuant to
§ 83 and that this in turn constitutes receipt by the employees within the 2 1⁄2month period, thereby precluding the
application of § 404. Accordingly, taxpayers argue that the timing of the deduction for the unpaid benefits secured by the
letter of credit or other financial instrument is accelerated to the taxable year the
benefits accrue, pursuant to the timing
rules of § 83.
.04 In Schmidt Baking Co. v. Commissioner, 107 T.C. 271 (1996), the Tax Court
addressed the application of the timing
rules of §§ 83 and 404 to the securitization
of vacation and severance pay benefits
with an irrevocable standby letter of
credit. The Tax Court held that the taxpayer was entitled to deduct the benefits
under § 83 in the taxable year the benefits
accrued. The Court concluded that a § 83
transfer of property constitutes receipt
within the meaning § 404 and the regulations thereunder. Based upon the stipulation that the securitization of the benefits
with the irrevocable letter of credit constituted a transfer of property under § 83, the
Tax Court concluded that the benefits
were received by the employees within the
21⁄2-month period, so that the employer’s
deduction for the benefits was not subject
to § 404. The Service has neither appealed nor acquiesced in that decision.
.05 Congress specifically overturned
the decision in Schmidt Baking with the
enactment of section 404(a)(11), which
was added to the Code by § 7001 of the
Internal Revenue Service Restructuring
and Reform Act of 1998 (RRA), Pub. L.
No. 105–206, 112 Stat. 685, 827 (July 22,
1998). Section 404(a)(11) provides that,
for purposes of determining under § 404
whether compensation of an employee is
deferred compensation and when deferred
compensation is paid, no amount is
treated as received by the employee, or
paid, until it is actually received by the
employee. Section 404(a)(11) is effective
for taxable years ending after July 22,
1998.
.06 The RRA provides that a taxpayer
changing its method of accounting to
comply with § 404(a)(11) for its first tax-

38

able year ending after July 22, 1998, will
be treated as making a change initiated by
the taxpayer with the consent of the Commissioner. It further provides that the
change will be made with a § 481(a) adjustment that will be taken into account
ratably over a 3-taxable-year period beginning with the first taxable year ending
after July 22, 1998.
.07 The House and Senate committee
reports on § 404(a)(11) state that “no inference is intended that the result in
Schmidt Baking is present law beyond its
immediate facts or that the use of similar
arrangements is permitted under present
law.” H. Rep. No 364, 105th Cong. 1st
Sess. 87, 89 (1997); S. Rep. No. 175,
105th Cong. 2nd Sess.118, 120 (1998).
.08 The Conference committee report
on § 404(a)(11) suggests that the Service
consider “on a case-by-case basis
[whether the] continued challenge of
these arrangements for prior years represents the best use of litigation resources.”
H. Rep.No. 599, 105th Cong. 2nd Sess.
342, 345 (1998).
.09 In Notice 99–16, 1999–13 I.R.B.
10, the Service provided procedures for
taxpayers to change their method of accounting for their first taxable year ending
after July 22, 1998, to comply with
§ 404(a)(11). The Service withheld audit
protection in connection with the change,
thereby preserving the right to challenge
these arrangements for prior taxable years.
.10 The Service has continued to examine cases involving these securitization
arrangements and has concluded that, in
general, they lack sufficient nontax business purpose and economic substance to
be respected for tax purposes. Although
the Service agreed to stipulate in Schmidt
that, for purposes of that litigation, a
“transfer of property” occurred under the
rules of § 83, a review of the facts of other
cases has led the Service to conclude that
such a stipulation would not correctly reflect the facts of those cases. The Service
reached that conclusion because, although
the employees whose benefits were secured were thereby given certain legal
rights, those rights were of such minimal
significance that there was no sufficiently
meaningful change in the parties’ relationships to support the conclusion that

1999–24 I.R.B.

the arrangements rose to the level of
transfers of property under § 83. Accordingly, in the majority of cases, the Service
has proposed to disallow the accelerated
deductions attributable to the arrangements. Compare Revenue Ruling 99–14,
1999–13 I.R.B. 3.
.11 Disallowance of the accelerated deductions on the basis of those doctrines
will be pursued, wherever appropriate.
This analysis requires the Service to evaluate the facts and circumstances of each
case with respect to business purpose and
economic substance. Additional field
work may be required by examiners to
more fully develop the issue, particularly
with regard to the taxpayer’s nontax business purpose for entering into the arrangement. This may include, but would not be
limited to, contact with third parties (such
as the pertinent financial institutions, employees, former employees, corporate officers, escrow agents etc.); the use of depositions, summonses, etc., to obtain all
relevant testimony and documentation
pertaining to the implementation of the
arrangement (including, but not limited
to, any promotional materials, legal opinions regarding the tax consequences of
the arrangement, etc.); and any other techniques deemed appropriate in order to
fully establish the purpose for entering
into the arrangement and to clarify the
factors that may establish sufficient economic substance to the transactions.
.12 Absent an exception, FICA taxes
must be deposited within specified times
after wages are actually or constructively
paid. No exception applies to these securitization arrangements. Therefore, if the
Service examines a case and determines
that the arrangement should be respected
for tax purposes, the Service will assert
the 10-percent failure-to-deposit penalty
under § 6656 for taxpayers who have
failed to timely deposit the employer’s
share of the FICA taxes.
SECTION 3. DEFINITIONS
.01 Accelerated deduction. The accelerated deduction for a taxable year is the
amount of benefits accrued by the taxpayer for the taxable year that became secured during the first 21⁄2 months after the
end of that taxable year but were not actually received by its employees within that
21⁄2-month period.

1999–24 I.R.B.

.02 Excess accelerated deduction. The
excess accelerated deduction for a taxable
year is the accelerated deduction for the
taxable year less the amount of the accelerated deductions for prior taxable years
that were actually received by employees
during the taxable year (if vacation pay)
or during the employees’ taxable year
ending with or within the taxable year (if
benefits other than vacation pay). However, the excess accelerated deduction for
the first taxable year covered by a settlement under this revenue procedure is
equal to the accelerated deduction for the
taxable year.
SECTION 4. SCOPE
.01 In general. The settlement options
described in this revenue procedure are
available to any taxpayer that deducted
for a taxable year the unpaid portion of
accrued employee benefits based on the
securitization of the benefits by a letter of
credit, bond, or other similar financial instrument during the first 21⁄2 months of the
following taxable year. The employee
benefits in question are primarily vacation
pay, but may also include other benefits
such as severance pay, disability pay, or
sick pay.
.02 Inapplicability. This revenue procedure does not apply to a taxpayer unless
the taxpayer, in accordance with the procedures set forth in Notice 99–16, 1999–
13 I.R.B. 10, changes its method of accounting for its first taxable year ending
after July 22, 1998, to comply with
§ 404(a)(11).
SECTION 5. OPTION ONE:
ALTERNATIVE-TIMING
SETTLEMENT
.01 In General. The Service offers to
settle the issue with taxpayers subject to
this revenue procedure by allowing taxpayers to deduct 50 percent of the accelerated deduction for a taxable year in the
taxable year the benefits accrue and 50
percent in the taxable year the benefits are
actually received by the employee (if vacation pay) or in the taxable year in which
or with which ends the employee’s taxable year in which the benefits were actually received (if benefits other than vacation pay). For taxpayers choosing this
settlement option, the § 481(a) adjustment

39

resulting from the change in method of
accounting to comply with § 404(a)(11)
would be reduced accordingly.
.02 Terms of alternative-timing settlement.
(1) The settlement will cover the taxpayer’s earliest open taxable year after
which there is no closed taxable year and
all subsequent taxable years ending on or
before July 22, 1998.
(2) The Service will allow 50 percent
of the excess accelerated deduction for
each of the taxable years covered by the
settlement.
(3) The taxpayer’s method of accounting for the unpaid portion of accrued
employee benefits that the taxpayer secured during the first 21⁄2 months of the
following taxable year by purchasing a
letter of credit or other similar financial
instrument is not changed for the taxable
years covered by the settlement;.
(4) The taxpayer must change its
method of accounting for its first taxable
year ending after July 22, 1998, to comply
with § 404(a)(11).
(a) The § 481(a) adjustment resulting from the change will equal the aggregate of the excess accelerated deductions for all taxable years ending on or
before July 22, 1998 (determined without
regard to the special rule in section 3.02
of this revenue procedure for computing
the excess accelerated deduction for the
first taxable year covered by the settlement), and will be reduced by 50 percent
of the aggregate of the excess accelerated
deductions for the taxable years covered
by the settlement.
(b) The § 481(a) adjustment will
be taken into account ratably over a 3-taxable-year period beginning with the first
taxable year ending after July 22, 1998.
(5) The Service will not require the
taxpayer to change its method of accounting for the unpaid portion of accrued employee benefits that the taxpayer secured
during the first 21⁄2 months of the following taxable year by purchasing a letter of
credit or other similar financial instrument, for taxable years ending on or before July 22, 1998.
SECTION 6. OPTION TWO: TIMEVALUE-OF-MONEY SETTLEMENT
.01 In General. The Service offers to
settle the issue with taxpayers subject to

June 14, 1999

this revenue procedure in exchange for
taxpayers paying the government 50 percent of the time-value-of-money benefit
the taxpayer derived from deducting the
accelerated deduction for a taxable year in
the taxable year the benefits accrue instead of in the taxable year the benefits
are actually received by the employee (if
vacation pay) or in the taxable year in
which or with which ends the employee’s
taxable year in which the benefits were
actually received (if benefits other than
vacation pay).
.02 Terms of time-value-of-money settlement.
(1) The settlement will cover the taxpayer’s earliest open taxable year after
which there is no closed taxable year and
all subsequent taxable years ending on or
before July 22, 1998.
(2) The taxpayer will pay the government a “specified amount” that approximates the time-value-of-money benefit the taxpayer has derived from
deducting the accelerated deductions for
each of the taxable years covered by the
settlement in the taxable year the benefits
accrue instead of in the taxable year the
benefits are actually received by the employee (if vacation pay) or in the taxable
year in which or with which ends the employee’s taxable year in which the benefits were actually received (if benefits
other than vacation pay), reduced by 50
percent. The specified amount is not interest under § 163(a), and may not be deducted or capitalized under any provision
of the Code.
(3) The specified amount equals the
sum of the time-value-of-money benefit
(detriment) computed with respect to each
taxable year covered by the settlement,
reduced by 50 percent. However, if the
sum of the time-value-of-money benefit
(detriment) computed with respect to each
taxable year is negative, the specified
amount will be zero and no refund will be
made to the taxpayer. The time-value-ofmoney benefit (detriment) with respect to
each taxable year covered by the settlement equals the “hypothetical underpayment (overpayment), “ multiplied by the
“applicable time-value rate,” compounded daily for the “applicable period.”
(a) Hypothetical underpayment
(overpayment). The hypothetical underpayment (overpayment) for each taxable
year covered by the settlement is equal to

June 14, 1999

the excess accelerated deductions for the
taxable year, multiplied by the applicable
tax rate for the taxable year of the underpayment (overpayment). The applicable
tax rate is the highest rate of income tax
applicable to the taxpayer (for example,
the highest rate in effect under § 1 for individuals or § 11 for corporations).
(b) Applicable time-value rate.
The applicable time-value rate generally
equals the average of the quarterly underpayment (overpayment) rates in effect
under § 6621(a) for the applicable period.
However, for a taxpayer that would be entitled to a deduction under § 163(a) for the
specified amount if the specified amount
were treated as interest arising from the
underpayment of tax, the applicable timevalue rate is computed at a reduced rate
equaling the average of the quarterly underpayment (overpayment) rates in effect
under § 6621(a) for the applicable period,
multiplied by the excess of 100% over the
applicable tax rate for the taxable year of
the underpayment (overpayment).
(c) Applicable period. The applicable period begins on the due date (without regard to extensions) of the return for
the taxable year of the underpayment
(overpayment) and ends on the due date
of the taxpayer’s return (without regard to
extensions) for its first taxable year ending after July 22, 1998.
(d) Time-value-of-money formula.
The time-value-of-money benefit for each
taxable year covered by the settlement is
computed using the following formula:
U * {[1 + (R/365)]N – 1}
where U = hypothetical underpayment for
the taxable year
R = the applicable time-value rate
N = the number of days in the applicable period
(4) The specified amount is not refundable or creditable against any federal
tax liability of the taxpayer.
(5) The taxpayer’s method of accounting for the unpaid portion of accrued
employee benefits that the taxpayer secured during the first 21⁄2 months of the
following taxable year by purchasing a
letter of credit or other similar financial
instrument is not changed for the taxable
years covered by the settlement.
(6) The taxpayer must change its
method of accounting for its first taxable

40

year ending after July 22, 1998, to comply
with § 404(a)(11).
(a) The § 481(a) adjustment resulting from the change will equal the aggregate of the excess accelerated deductions for all taxable years ending on or
before July 22, 1998 (determined without
regard to the special rule in section 3.02
for computing the excess accelerated deduction for the first taxable year covered
by the settlement).
(b) The § 481(a) adjustment will
be taken into account ratably over a 3-taxable-year period beginning with the first
taxable year ending after July 22, 1998.
(7) The Service will not require the
taxpayer to change its method of accounting for the unpaid portion of accrued employee benefits that the taxpayer secured
during the first 21⁄2 months of the following taxable year by purchasing a letter of
credit or other similar financial instrument, for taxable years ending on or before July 22, 1998.
SECTION 7. PROCEDURES FOR
REQUESTING, PROCESSING, AND
IMPLEMENTING A SETTLEMENT
.01 Procedures for requesting the settlement.
(1) Initiating the request.
(a) In general. A taxpayer that
wants to request a settlement under this
revenue procedure must submit its request
for the settlement in writing to Sharon
Russell (Vacation Pay Issue Specialist) on
or before the later of October 1, 1999, or
the due date of its return (determined with
regard to extensions of time) for its first
taxable year ending after July 22, 1998.
The request must be addressed to the Internal Revenue Service, 5990 West Creek
Road, Independence, Ohio 44131, Attention: Sharon Russell (Vacation Pay Issue
Specialist), Exam Branch 2.
(b) Taxpayer under examination.
A taxpayer that is under examination on
June 14, 1999, that wants to request a settlement under this revenue procedure
must submit its request to the case manager or group manager having jurisdiction
of the case on or before October 1, 1999.
(c) Service-initiated request. A
case manager or group manager may
make a settlement offer under this revenue procedure in a case under their jurisdiction at any time during the examination.

1999–24 I.R.B.

(2) Statement of facts, law, and arguments. The request for settlement must
include the following information:
(a) the taxpayer’s name, address,
telephone number, and taxpayer identification number;
(b) the type of settlement proposed by the taxpayer (alternative-timing
or time-value-of-money);
(c) the taxable years covered by
the proposed settlement;
(d) a statement of the material
facts, including the amount of the accelerated deductions and excess accelerated
deductions for each taxable year covered
by the proposed settlement;
(e) an analysis of whether the
amounts shown as accelerated deductions
for each taxable year covered by the proposed settlement were incurred under
§ 461 in that taxable year;
(f) if the taxpayer is proposing an
alternative-timing settlement under this
revenue procedure, a statement that the
taxpayer agrees to file amended returns to
reflect the settlement for any affected taxable years covered by the settlement (not
under examination);
(g) if the taxpayer is proposing a
time-value-of-money settlement under
this revenue procedure, a computation of
the specified amount, including the supporting computations of the time-valueof-money benefit (detriment) with respect
to each taxable year covered by the settlement;
(h) a statement that the taxpayer
agrees that the Service is not changing the
taxpayer’s method of accounting for the
taxable years covered by the settlement;
(i) a statement that the taxpayer
has changed or agrees to change its
method of accounting for its first taxable
year ending after July 22, 1998, to comply
with § 404(a)(11);
(j) the amount of the § 481(a) adjustment required as a result of the change
to comply with § 404(a)(11) and, if the
taxpayer is proposing an alternative-timing settlement, the reduction of the
§ 481(a) adjustment required as a result of
the settlement;
(k) a statement that the Service is
not precluded from challenging the
amount of the accelerated deduction for
any taxable year covered by the settlement on a basis unrelated to the securitization arrangement (e.g., that all or a por-

1999–24 I.R.B.

tion of the amount is not incurred during
that year under § 461); and
(l) a statement that the taxpayer
accepts the settlement and agrees to the
terms of this revenue procedure.
(3) Perjury statement. The request
for settlement must be accompanied by
the following declaration: “Under
penalties of perjury, I declare that I
have examined this information, including accompanying documents, and,
to the best of my knowledge and belief,
the information contains all the relevant facts relating to the request for the
information, and such facts are true,
correct, and complete.” This declaration
must be signed by, or on behalf of, the
taxpayer by an individual with the authority to bind the taxpayer in such matters.
The declaration may not be signed by the
taxpayer’s representative.
.02 Procedures for processing the request.
(1) Receipt of request acknowledged.
The Vacation Pay Issue Specialist, case
manager, or group manager (whichever is
applicable) will acknowledge receipt of
the taxpayer’s request for settlement in
writing within 15 days of receipt.
(2) Factual development. The Vacation Pay Issue Specialist, case manager,
or group manager (whichever is applicable) will contact the taxpayer to discuss
any questions that the Service may have,
or ask for additional information believed
to be necessary in order to execute the settlement.
(3) Notification of acceptance. The
Vacation Pay Issue Specialist, case manager, or group manager (whichever is applicable) will notify the taxpayer in writing when the Service agrees to the
settlement requested by the taxpayer. The
notification of acceptance will set forth
the material terms and conditions of the
settlement.
(4) Withdrawal of request for settlement. The taxpayer may withdraw its request for the settlement any time prior to
execution of the closing agreement required in section 7.03(1) of this revenue
procedure or payment of the specified
amount as required in section 7.03(2) of
this revenue procedure. The withdrawal
must be communicated in writing to the
Vacation Pay Issue Specialist, case manager, or group manager (whichever is appropriate).

41

.03 Procedures for implementing the
settlement.
(1) Alternative-timing settlement.
(a) Closing agreement required.
A taxpayer implementing an alternativetiming settlement under this revenue procedure is required to execute a closing
agreement under § 7121. The taxpayer
must pay the government any taxes and
interest due as a result of the settlement.
(b) Contents of closing agreement.
A closing agreement finalizing an alternative-timing settlement under this revenue
procedure must comply with the requirements of Rev. Proc. 68–16, 1968–1 C.B.
770, and must state:
(i) the name, address, telephone
number, and taxpayer identification number of any taxpayer included in the agreement;
(ii) that the issue covered by the
settlement is the timing of deductions for
accrued vacation pay and other benefits
unpaid during a taxable year for which the
taxpayer purchased a letter of credit,
bond, or other similar financial instrument to secure the benefits during the first
21⁄2 months of the following taxable year;
(iii) the facts and representations upon which the taxpayer and the
Service relied in reaching the agreement;
(iv) the definitions of accelerated deduction and excess accelerated deduction set forth in section 3 of this revenue procedure;
(v) the taxable years covered by
the settlement;
(vi) that the Service is disallowing 50 percent of the excess accelerated
deduction for each of the taxable years
covered by the settlement;
(vii) that the Service is not
changing the taxpayer’s method of accounting for the taxable years covered by
the settlement;
(viii) that the taxpayer is required to change its method of accounting
for its first taxable year ending after July
22, 1998, to comply with § 404(a)(11);
(ix) the amount of the § 481(a)
adjustment required as a result of the
change to comply with § 404(a)(11);
(x) that the § 481(a) adjustment
resulting from the change to comply with
§ 404(a)(11) will be reduced by 50 percent of the aggregate of the excess accelerated deductions for the taxable years
covered by the settlement;

June 14, 1999

(xi) that the taxpayer has filed
or will file amended returns to reflect the
settlement for any affected taxable years
covered by the settlement;
(xii) that the Service is not precluded from challenging the amount of
the accelerated deduction for any taxable
year covered by the settlement on a basis
unrelated to the securitization arrangement (e.g., that all or a portion of the
amount is not incurred during that year
under § 461); and
(xiii) that the taxpayer accepts
the alternative-timing settlement and
agrees to the terms of this revenue procedure.
(c) Review and execution of closing agreement. The Vacation Pay Issue
Specialist, case manager, or group manager (whichever is applicable) will prepare the closing agreement and submit the
closing agreement to the taxpayer for execution. The closing agreement will be executed by the Service after it has been executed by the taxpayer and will be
executed on behalf of the Service by the
Vacation Pay Issue Specialist or, in the
case of a taxpayer under examination, by
the case manager or group manager having jurisdiction of the case. A case manager or group manager must submit a
closing agreement to the Vacation Pay
Issue Specialist for review prior to submitting the closing agreement to the taxpayer for execution.
(d) Amended returns.
(i) In general. A taxpayer implementing an alternative-timing settlement under this revenue procedure is required to file amended returns to reflect
the settlement for any affected taxable
years covered by the settlement. The
amended returns must include the adjustments to taxable income and any collateral adjustments to taxable income or tax
liability resulting from the settlement necessary to reflect the settlement.
(ii) Years under examination. If
the taxpayer is under examination at the
time the closing agreement is executed,
the Service will make the adjustments
necessary to reflect the settlement to the
taxpayer’s returns for the taxable years
under examination and the taxpayer is required to file amended returns to reflect
the settlement for any other affected taxable years covered by the settlement.

June 14, 1999

(iii) Time and manner. The Service may require the taxpayer to file the
amended returns prior to executing the
closing agreement, and in no event will
the amended returns be filed later than 60
days after the date the Service executes
the closing agreement. The taxpayer must
provide a copy of the amended returns to
the Vacation Pay Issue Specialist, case
manager, or group manager (whichever is
applicable) at the time it files the
amended returns.
(e) Compliance with § 404(a)(11).
A taxpayer implementing an alternativetiming settlement under this revenue procedure must change its method of accounting and file its returns for taxable
years ending after July 22, 1998, in compliance with § 404(a)(11).
(2) Time-value-of-money settlement.
(a) Payment of specified amount.
A taxpayer implementing a time-value of
money settlement under this revenue procedure must pay the specified amount
within 30 days of the date of the writing
from the Service notifying the taxpayer of
acceptance of the settlement. The payment must be sent to the Internal Revenue
Service, Cincinnati Service Center, 201
W. River Center Blvd., Stop 31, Unit 21,
Covington , KY 41019.
(b) Statement. The payment of the
specified amount must be accompanied
by the following information:
(i) the name, address, telephone
number, and taxpayer identification number of the taxpayer;
(ii) a copy of the notification of
acceptance from the Vacation Pay Issue
Specialist described in section 7.02(3) of
this revenue procedure; and
(iii) a statement that the taxpayer accepts the time-value-of-money
settlement and agrees to the terms of this
revenue procedure.
(c) Perjury statement. The information must be accompanied by the following declaration: “Under penalties of
perjury, I declare that I have examined
this information, including accompanying
documents, and, to the best of my knowledge and belief, the information contains
all the relevant facts relating to the request for the information, and such facts
are true, correct, and complete.” This declaration must be signed by, or on behalf
of, the taxpayer by an individual with the

42

authority to bind the taxpayer in such
matters. The declaration may not be
signed by the taxpayer’s representative.
(d) Label. The following language
must be either typed or legibly printed at
the top of the first page of the information:
PAYMENT OF SPECIFIED AMOUNT
UNDER REV. PROC. 99–26”.
(e) Compliance with § 404(a)(11).
A taxpayer implementing a time-value-ofmoney settlement under this revenue procedure must change its method of accounting and file its returns for taxable
years ending after July 22, 1998, in compliance with § 404(a)(11).
.04 Authority to make and accept settlement offers.
Examination case managers and group
managers will have delegated authority to
accept or make the settlement offers described in this revenue procedure and to
execute required closing agreements for
cases under their jurisdiction. The Vacation Pay Issue Specialist will have the
same delegated authority to accept settlement offers and to execute closing agreements.
SECTION 8. EXAMPLE
.01 Facts. A taxpayer that is a corporation files its tax return on a calendar year
basis. The taxpayer has a vacation plan
that is based on the calendar year. Under
the terms of the vacation plan, vacation
earned in one year vests at the end of the
year and cannot be used during the year
earned. Vested vacation time must be
used in the year following the year in
which earned, or it is forfeited. Beginning in 1992, the taxpayer purchases a letter of credit on March 15 of every taxable
year to secure the portion of vacation pay
accrued in the prior taxable year that is
unpaid on that date. All of the accrued
vacation pay secured by the letter of
credit is paid during the taxable year following the taxable year it accrued because
none of the vacation pay is forfeited. The
taxpayer deducts for the taxable year the
unpaid portion of the accrued vacation
pay based on the securitization of the benefits during the first 21⁄2 months of the following taxable year. The amount of accrued and unpaid vacation benefits as of
the end of the taxable year secured in the
first 21⁄2 months of the following taxable
year (the accelerated deduction) is

1999–24 I.R.B.

$10,000,000 for 1991, $12,000,000 for
1992, $15,000,000 for 1993, $13,000,000
for 1994, $16,000,000 for 1995,
$16,000,000 for 1996, and $18,000,000
for 1997.
.02 Alternative-timing settlement. The
taxpayer is examined for the 1992 and
1993 taxable years (1992 is the earliest
open taxable year after which there is no
closed taxable year). The taxpayer and
the Service agree to settle the issue on the
basis of the alternative-timing settlement
in section 5 of this revenue procedure.
(1) The accelerated deduction for
each taxable year is the amount of accrued and unpaid vacation benefits as of
the end of the taxable year secured in the
first 21⁄2 months of the following taxable
year (Exhibit I, Column A).
(2) The amount of the accelerated
deductions for prior taxable years that
was actually received by employees during each taxable year is the accelerated
deduction for the prior taxable year because the portion of the unpaid vacation
pay secured by the letter of credit is paid
in the taxable year following the taxable
year it accrues (Exhibit I, Column B).
(3) The excess accelerated deduction
for each taxable year covered by the settlement is the accelerated deduction for
the taxable year less the accelerated deduction for the prior taxable year, except
that the excess accelerated deduction for
1992 (the first taxable year covered by the
settlement) is the accelerated deduction
for the taxable year (Exhibit I, Column
C).
(4) The Service will disallow 50 percent of the excess accelerated deduction
for 1992 and 1993. (Exhibit I, Column
D).
(5) The taxpayer is required to
amend its returns for 1994, 1995, and
1997 to reflect the disallowance of 50 percent of the excess accelerated deduction
for each of those taxable years. (Exhibit I,
Column D)
(6) The taxpayer is required to
change its method of accounting for 1998
(its first taxable year ending after July 22,
1998) to comply with § 404(a)(11).
(a) The § 481(a) adjustment resulting from the change will equal
$9,000,000, determined as follows: the
aggregate of the excess accelerated deductions for all taxable years ending on or
before July 22, 1998 (determined without

1999–24 I.R.B.

regard to the special rule in section 3.02
for computing the excess accelerated deduction for the first taxable year covered
by the settlement) [$18,000,000], reduced
by 50 percent of the aggregate of the excess accelerated deductions for the taxable years covered by the settlement
[$9,000,000] (Exhibit II).
(b) The § 481(a) adjustment will
be taken into account ratably over a 3-taxable-year period beginning with the first
taxable year ending after July 22, 1998.
.03 Time-value-of-money settlement.
The taxpayer accepts the offer to settle the
issue on the basis of the time-value-ofmoney settlement in section 6 of this revenue procedure. The specified amount
would be deductible under § 163(a) by the
taxpayer if it were treated as interest expense arising from an underpayment of
tax.
(1) The taxpayer must pay the specified amount of $994,379, computed as
follows:
(a) The hypothetical underpayment of tax for 1992 is $4,080,000, computed as follows: the excess accelerated
deduction of $12,000,000 multiplied by
the applicable tax rate of 34%. The applicable time-value rate for 1992 is
5.46%, which is computed as follows.
The applicable period for 1992 is March
15, 1993 (the due date of the return without extensions) to March 15, 1999. The
underpayment rates in effect for the applicable period are 7%, 7%, 7%, 7%, 7%,
7%, 8%, 9% , 9%,10%, 9%, 9%, 9%, 8%,
9%, 9%, 9%, 9%, 9%, 9%, 9%, 8%, 8%,
8%, 7%. The average underpayment rate
in effect for the applicable period is
8.28% [(7+7+7+7+7+7+8+9+9+10+ 9+
9+9+8+9+9+9+9+9+9+9+8+8+8+7)/25].
The applicable after-tax time-value rate is
5.46%, computed by multiplying the average underpayment rate by one minus
the applicable tax rate [8.28% * (1–.34)].
The time-value-of-money benefit for
1992 is $1,582,254, computed as follows:
$4,080,000 * {[1 + (.0546/365)]2191 – 1}.
(b) The hypothetical underpayment of tax for 1993 is $1,050,000, computed as follows: the excess accelerated
deduction of $3,000,000 multiplied by the
applicable tax rate of 35%. The applicable time-value rate for 1993 is 5.54%,
which is computed as follows. The applicable period for 1993 is March 15,
1994 (the due date of the return without

43

extensions) to March 15, 1999. The underpayment rates in effect for the applicable period are 7%, 7%, 8%, 9% , 9%,10%,
9%, 9%, 9%, 8%, 9%, 9%, 9%, 9%, 9%,
9%, 9%, 8%, 8%, 8%, 7%. The average
underpayment rate in effect for the
applicable period is 8.52% [(7+7+
8+9+9+10+ 9+ 9+9+8+9+9+9+9+9+9+
9+8+8+8+7)/21]. The applicable aftertax time-value rate is 5.54%, computed by
multiplying the average underpayment
rate by one minus the applicable tax rate
[8.52% * (1–.35)]. The time-value-ofmoney benefit for 1993 is $335,306, computed as follows: $1,050,000 * { [1 +
(.0554/365)]1826 – 1}.
(c) The hypothetical overpayment
of tax for 1994 is $700,000, computed as
follows: the excess accelerated deduction
of ($2,000,000) multiplied by the applicable tax rate of 35%. The applicable timevalue rate for 1994 is 5.01%, which is
computed as follows. The applicable period for 1994 is March 15, 1995 (the due
date of the return without extensions) to
March 15, 1999. The overpayment rates
in effect for the applicable period are
8%,9%, 8%, 8%, 8%, 7%, 8%, 8%, 8%,
8%, 8%, 8%, 8%, 7%, 7%, 7%, 6%. The
average overpayment rate in effect for the
applicable period is 7.71% [(8+9+8+
8+8+7+8+8+8+8+8+8+8+7+7+7+6)/17].
The applicable after-tax time-value rate is
5.01%, computed by multiplying the average overpayment rate by one minus the
applicable tax rate [7.71% * (1–.35)].
The time-value-of-money detriment for
1994 is $155,430, computed as follows:
$700,000 * {[1 + (.0501/365)]1461 – 1}.
(d) The hypothetical underpayment of tax for 1995 is $1,050,000, computed as follows: the excess accelerated
deduction of $3,000,000 multiplied by the
applicable tax rate of 35%. The applicable time-value rate for 1995 is 5.55%,
which is computed as follows. The applicable period for 1995 is March 15,
1996 (the due date of the return without
extensions) to March 15, 1999. The underpayment rates in effect for the applicable period are 9%, 8%, 9%, 9%, 9%, 9%,
9%, 9%, 9%, 8%, 8%, 8%, 7%. The average underpayment rate in effect for the
applicable period is 8.54% [(9+8+9+
9+9+9+9+9+9+8+8+ 8+7)/13]. The applicable after-tax time-value rate is
5.55%, computed by multiplying the average underpayment rate by one minus

June 14, 1999

the applicable tax rate [8.54% * (1–.35)].
The time-value-of-money benefit for
1995 is $190,206, computed as follows:
$1,050,000 * {[1 + (.0555/365)]1095 – 1}.
(e) There is no time-value-ofmoney benefit or detriment in 1996.
(f) The hypothetical underpayment of tax for 1997 is $700,000, computed as follows: the excess accelerated
deduction of $2,000,000 multiplied by the
applicable tax rate of 35%. The applicable time-value rate for 1997 is 5.2%,
which is computed as follows. The applicable period for 1997 is March 15,
1998 (the due date of the return without
extensions) to March 15, 1999. The underpayment rates in effect for the applicable period are 9%, 8%, 8%, 8%, 7%. The
average underpayment rate in effect for
the applicable period is 8% [(9+8+8+
8+7)/5]. The applicable after-tax timevalue rate is 5.2%, computed by multiplying the average underpayment rate by one
minus the applicable tax rate [8% * (1.35)]. The time-value-of-money benefit
for 1997 is $37,360, computed as follows:
$700,000 * {[1 + (.052/365)]365 – 1}.
(g) The sum of the time-value-ofmoney benefit (detriment) computed with
respect to each taxable year covered by
the settlement is $1,989,696, computed
as follows: $1,582,254+$335,306–
$155,430+$190,206+$37,360.
(h) The specified amount is
$994,848, computed as follows:
$1,989,696 times 50 percent.
(2) The taxpayer is required to
change its method of accounting for 1998
(its first taxable year ending after July 22,
1998) to comply with § 404(a)(11).

June 14, 1999

(a) The § 481(a) adjustment resulting from the change will equal
$18,000,000, the aggregate of the excess
accelerated deductions for all taxable
years ending on or before July 22, 1998
(determined without regard to the special
rule in section 3.02 for computing the excess accelerated deduction for the first
taxable year covered by the settlement)
(Exhibit II).
(b) The § 481(a) adjustment will
be taken into account ratably over a 3-taxable-year period beginning with the first
taxable year ending after July 22, 1998.
SECTION 9. EFFECT ON OTHER
OFFICES OF THE SERVICE
The provisions of this revenue procedure are not intended to preclude an appropriate representative of the Service
from settling a particular taxpayer’s case
involving this issue on a more favorable
or less favorable basis than provided in
this revenue procedure. For example, an
appeals officer may settle a case based on
the hazards of litigation.
SECTION 10. PAPERWORK
REDUCTION ACT
The collections of information contained in this revenue procedure have
been reviewed and approved by the Office of Management and Budget in accordance with the Paperwork Reduction Act
(44 U.S.C. 3507) under control number
1545–1653.
An agency may not conduct or sponsor,
and a person is not required to respond to,
a collection of information unless the col-

44

lection of information displays a valid
OMB control number.
The collection of information in this
revenue procedure is in section 7 of this
revenue procedure. The information is required to ensure that the settlement
amount required to be paid under this revenue procedure is accurately computed
and timely paid. The likely respondents
are businesses that pay deferred benefits.
The estimated total annual reporting
burden is 2,000 hours.
The estimated annual burden per respondent will vary from 10 hours to 30
hours, depending on individual circumstances, with an estimated average of 20
hours. The estimated number of respondents is 100.
The estimated annual frequency of responses is one time.
Books or records relating to a collection of information must be retained as
long as their contents may become material in the administration of any internal
revenue law. Generally, tax returns and
return information are confidential, as required by 26 U.S.C. 6103.
DRAFTING INFORMATION
The principal author of this revenue
procedure is Robert Testoff of the Office
of the Assistant Chief Counsel (Income
Tax & Accounting). For further information regarding this settlement initiative
contact Sharon Russell (Vacation Pay
Issue Specialist) at (216) 328-2824 (not a
toll-free call).

1999–24 I.R.B.

EXHIBIT I
COMPUTATION OF EXCESS ACCELERATED DEDUCTION

Taxable Year
Covered By
Settlement

Accelerated
Deduction
(Column A)

Accelerated
Deduction
From Prior
Year Paid
During Current
Year
(Column B)
[Col A Prior Yr]

Excess
Accelerated
Deduction
(Column C)
[Col A - Col B]

50-Percent
Disallowance
of Excess
Accelerated
Deduction
(Column D)
[50% Col C]

$ 12,000,000*

$ 6,000,000
$ 1,500,000

1992

$ 12,000,000

1993

$ 15,000,000

$ 12,000,000

$ 3,000,000

1994

$ 13,000,000

$ 15,000,000

($ 2,000,000)

1995

$ 16,000,000

$ 13,000,000

$ 3,000,000

$ 1,500,000

1996

$ 16,000,000

$ 16,000,000

$

0

$

1997

$ 18,000,000

$ 16,000,000

$

2,000,000

$ 1,000,000

$ 18,000,000

$ 9,000,000

Total

($ 1,000,000)

0

* The excess accelerated deduction for the first taxable year covered by the settlement is equal to the accelerated deduction for the taxable year.

1999–24 I.R.B.

45

June 14, 1999

EXHIBIT II
COMPUTATION OF § 481(a) ADJUSTMENT
Computation of § 481(a) Adjustment
Time-value-of-money Settlement (Option Two)

Taxable Year
1991
1992
1993
1994
1995
1996
1997
§ 481(a) adj.

Accelerated
Deduction From
Prior Year Paid
During Current
Year
(Column B)
[Col A Prior Yr]

Accelerated
Deduction
(Column A)
$
$
$
$
$
$
$

10,000,000
12,000,000
15,000,000
13,000,000
16,000,000
16,000,000
18,000,000

$
0
$ 10,000,000
$ 12,000,000
$ 15,000,000
$ 13,000,000
$ 16,000,000
$ 16,000,000

Excess
Accelerated
Deduction
(Column C)
[Col A - Col B]
$ 10,000,000
$ 2,000,000*
$ 3,000,000
($ 2,000,000)
$ 3,000,000
$
0
$ 2,000,000
$ 18,000,000

* The excess accelerated deduction for the first taxable year covered by the settlement is computed without regard to the special rule in section 3.02.

Computation of Reduced § 481(a) Adjustment
Alternative-timing Settlement (Option One)
§ 481(a) Adjustment for Time-Value-of-Money Settlement (Exhibit II, Col. C)
50% Disallowance of Excess Accelerated Deduction (Exhibit I, Col. D)
§ 481(a) Adjustment for Alternative-timing Settlement

June 14, 1999

46

$18,000,000
$ 9,000,000
$ 9,000,000

1999–24 I.R.B.

1999–24 I.R.B.

EXHIBIT III
COMPUTATION OF SPECIFIED AMOUNT

Quarterly Interest Rates

Average
Under/Over
Payment Rate
(ARU/ARO)
⌺ Rates / # Rates

Tax
Rate
(T)

After-Tax
Time-Value
Rate
(R)
AR * [1–T]

Number of
Days In
Applicable
Period
(N)

Excess
Accelerated
Deductions
(EAD)

Hypothetical
Under/Over
Payment
(HU/HO)
EAD * TR

Time-Value-ofMoney Benefit
(Detriment) For
Taxable Year
(TVMB)
HU * {[1+(R/365)]N–1}

Under
Payment
Rate

Over
Payment
Rate

Taxable
Year

1/1/93 – 3/31/93

7%

6%

1992

3/15/93 - 3/15/99

8.28%

34%

5.46%

2191

$12,000,000

$4,080,000

$1,582,254

4/1/93 – 6/30/93

7%

6%

7/1/93 – 9/30/93

7%

6%

10/1/93 – 12/31/93

7%

6%

1/1/94 – 3/31/94

7%

6%

1993

3/15/94 - 3/15/99

8.52%

35%

5.54%

1826

$3,000,000

$1,050,000

$ 335,306

4/1/94 - 6/30/94

7%

6%

7/1/94 – 9/30/94

8%

7%

10/1/94 – 12/31/94

9%

8%

1/1/95 – 3/31/95

9%

8%

1994

3/15/95 - 3/15/99

8.71%

35%

5.66%

1461

($2,000,000)

($ 700,000)

($ 155,430)

4/1/95 – 6/30/95

10%

9%

7/1/95 – 9/30/95

9%

8%

10/1/95 – 12/31/95

9%

8%

1/1/96 – 3/31/96

9%

8%

1995

3/15/96 - 3/15/99

8.54%

35%

5.55%

1095

$3,000,000

$1,050,000

$ 190,206

4/1/96 – 6/30/96

8%

7%

7/1/96 – 9/30/96

9%

8%

10/1/96 – 12/31/96

9%

8%

1/1/97 – 3/31/97

9%

8%

1996

3/15/97 - 3/15/99

8.44%

35%

5.49%

730

$

$

$

4/1/97 – 6/30/97

9%

8%

7/1/97 – 9/30/97

9%

8%

10/1/97 – 12/31/97

9%

8%

1/1/98 – 3/31/98

9%

8%

1997

3/15/98 - 3/15/99

8.00%

35%

5.20%

365

$2,000,000

4/1/98 – 6/30/98

8%

7%

7/1/98 – 9/30/98

8%

7%

Quarter

Applicable
Period

47

0

0

June 14, 1999

$ 700,000

0

$ 37,360

June 14, 1999

10/1/98 – 12/31/98

8%

7%

1/1/99 – 3/31/99

7%

6%

⌺ TVMBs

$ 1,989,696

Specified Amount
50% of ⌺ TVMBs

$ 994,848

48
1999–24 I.R.B.