                  T.C. Summary Opinion 2002-96



                     UNITED STATES TAX COURT



          ROBERT AND LISA MORGANSTEIN, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 825-01S.                Filed July 23, 2002.



     Jerry S. Goldman, for petitioners.

     Carol-Lynn E. Moran, for respondent.



     DINAN, Special Trial Judge:    This case was heard pursuant to

the provisions of section 7463 of the Internal Revenue Code in

effect at the time the petition was filed.   The decision to be

entered is not reviewable by any other court, and this opinion

should not be cited as authority.   Unless otherwise indicated,

subsequent section references are to the Internal Revenue Code in

effect for the years in issue.
                               - 2 -

     Respondent determined deficiencies in petitioners’ Federal

income taxes of $21,725 and $5,002 for the taxable years 1996 and

1997.

     The issue for decision is whether certain payments received

by BMP Entertainment, Inc., an S corporation wholly owned by

petitioner husband, are includable in income in the year in which

they were received or in the year in which the corresponding

services were rendered.1

     Some of the facts have been stipulated and are so found.

The stipulations of fact and the attached exhibits are

incorporated herein by this reference.    Petitioners resided in

Huntingdon Valley, Pennsylvania, on the date the petition was

filed in this case.

     During the years in issue, petitioner husband (petitioner)

was the sole shareholder of an S corporation named BMP

Entertainment, Inc. (BMP).   BMP’s business consists of providing

entertainment for parties in the form of disc jockey and related

services, primarily for bar mitzvahs.    Petitioner often would

enter into contracts on behalf of BMP for services to be rendered

up to several years later.   The contracts were based upon a

standard form contract which provided nearly identical terms for

each customer.   In order to reserve a future date, customers were


     1
      Respondent’s adjustment to petitioners’ miscellaneous
itemized deductions is computational and will be resolved by the
Court’s holding on the issue in this case.
                                - 3 -

required to remit a downpayment at the time the contract was

entered into.    The amount of the required payment, labeled a

“deposit”, varied from contract to contract but was always listed

as a portion of the total fee being charged for the services to

be rendered.    The standard terms provided that the entire payment

would be retained by BMP upon cancellation by the customer,

unless one of two circumstances occurred.     Upon the occurrence of

either of these circumstances, BMP would refund all of the

payment, less a $150 nonrefundable “administrative fee”.2     A

partial refund was available when:      (1) The customer canceled an

event due to death or life-threatening illness or injury of an

immediate family member, or (2) the customer canceled with 6

months’ advance written notice, provided BMP was able to find a

comparable engagement for the same date and time.     In order to

promote his professional reputation, petitioner usually would

make full refunds to canceling parties, despite the contractual

terms.

     In 1996, BMP received $87,660 in downpayments for services

to be performed in subsequent years.     In 1997, BMP received

$22,865 in payments for such services.     The payments were put

into the same bank account as other business income, and the

funds were not physically segregated in any manner.     BMP was not



     2
        In some cases, the amount of the downpayment was less than
$150.
                                - 4 -

required to pay interest on the deposits, and the funds were

available for general use by BMP.

     At all relevant times, BMP used the cash method of

accounting.   Prior to the years in issue, BMP reported the

downpayments received under the contracts as income in the year

in which the payments were received.     Beginning in 1996, pursuant

to advice received from a newly hired accountant, BMP began

reporting the payments as income in the year in which the

contractual services were rendered.     BMP did not file amended

returns for prior years and did not request consent from the

Secretary for a change in method of accounting.

     BMP filed a Form 1120S, U.S. Income Tax Return for an S

Corporation, in each of the years in issue.     In 1996, BMP

reported a loss of $103,217.    In 1997, BMP reported income of

$9,741.    Petitioners filed a joint Federal income tax return for

each of the years in issue.    In 1996, they claimed a loss of

$103,217 for petitioner’s distributive share (100 percent) of

BMP’s loss.   In 1997, they reported $9,741 for petitioner’s

distributive share (100 percent) of BMP’s income.

     In the statutory notice of deficiency, respondent determined

that petitioners’ income as reported on their returns was

understated by $87,660 in 1996 and $22,865 in 1997--the amounts

of the deposits received by BMP but not included in income on its

returns.
                                - 5 -

     Respondent’s primary argument is that BMP must include the

disputed amounts in gross income in the year in which they are

received because they are “advance payments” rather than

“deposits”.    Gross income generally includes income from whatever

source derived, including compensation for services.     Sec.

61(a)(1).    For cash basis taxpayers, payments received in advance

of performing services generally are included in income in the

year in which the payments are received.     Sec. 451(a); sec.

1.451-1(a), Income Tax Regs.    In contrast, certain deposits

received by taxpayers are not included in income where the

taxpayer lacks “complete dominion” over the deposits.

Commissioner v. Indianapolis Power & Light Co., 493 U.S. 203, 209

(1990).    However, we need not decide whether the downpayments

made by BMP’s customers in this case constitute advance payments

or deposits (or a combination of both), for the reasons discussed

infra.    Instead, we turn to respondent’s alternative argument.

     Respondent’s alternative argument is that BMP changed its

method of accounting without prior consent when it began

deferring recognition of income until the performance of the

related services.    Subject to various restrictions, a taxpayer

generally is entitled to compute taxable income for Federal

income tax purposes under the method of accounting regularly used

in keeping his books.    Sec. 446(a).   However, when a taxpayer

changes the method of accounting regularly used in keeping his
                                 - 6 -

books, he generally may not change to a new method of accounting

to compute taxable income without the consent of the Secretary.

Sec. 446(e).    “Consent must be secured whether or not such method

is proper or is permitted under the Internal Revenue Code or the

regulations thereunder.”    Sec. 1.446-1(e)(2)(i), Income Tax Regs.

     A change in the treatment of any material item in an overall

plan of accounting constitutes a change in method of accounting.

Sec. 1.446-1(e)(2)(ii)(a), Income Tax Regs.     A “material item” is

defined to include “any item which involves the proper time for

the inclusion of the item in income”.     Id.   Thus, an item is a

material item if its change affects only the timing of the

recognition of income while leaving lifetime taxable income

unchanged.     Schuster’s Express, Inc. v. Commissioner, 66 T.C.

588, 597 (1976), affd. without published opinion 562 F.2d 39 (2d

Cir. 1977).    On the other hand, a change in method of accounting

does not include “correction of mathematical or posting errors,

or errors in the computation of tax liability”.     Sec. 1.446-

1(e)(2)(ii)(b), Income Tax Regs.

     The customer downpayments in this case clearly constitute a

material item:    BMP’s change from recognizing the income upon

receipt to recognizing the income upon the performance of the

services is nothing more than a change in the timing of the

recognition of the income; BMP’s aggregate lifetime taxable
                               - 7 -

income is not affected.   See Schuster’s Express, Inc. v.

Commissioner, supra; sec. 1.446-1(e)(2)(ii)(a), Income Tax Regs.

     Petitioners argue that the change in the timing of the

income was not a change in method of accounting, but it rather

was a correction in the proper application of the cash basis

method of accounting.   Petitioners cite our opinion in Evans v.

Commissioner, T.C. Memo. 1988-228, for the proposition that a

taxpayer may correct an inadvertent mistake in the application of

its method of accounting without the correction’s constituting a

change in method of accounting.   In Evans, the taxpayers earned

yearly bonuses which were authorized by their employer at annual

board meetings but paid in each of the years subsequent to each

of the meetings.   The taxpayers historically had been including

bonuses in income in the year in which the bonuses were

authorized rather than the year in which they were received,

despite the fact that the taxpayers otherwise used the cash

method of accounting.   The taxpayers had been relying on the

Forms 1099 issued to them by the corporation through its

accountant, who had no knowledge that the bonuses were received

in a year other than the year they were declared.   We found that,

by changing the year of inclusion, the taxpayers did not

“consciously” adopt a new form of accounting other than their

overall cash method of accounting, and that the taxpayers were

merely correcting “inadvertent errors analogous to posting
                                 - 8 -

errors”.3   Because the taxpayers had never adopted any method of

accounting other than the cash method, there was no change in

method of accounting requiring prior consent.

     Evans is distinguishable from the present case.      Evans

involved individual taxpayers who relied on informational returns

issued to them by a corporation to complete their tax returns.

In filling out their returns, the taxpayers presumably merely

transferred the numbers from one form to the other, creating

errors analogous to posting errors.      In the present case, BMP

historically had consistently included the substantial and

recurring downpayments in income in the year in which they were

received.   Even if petitioner was not aware that there may have

been an issue concerning the proper timing for the inclusion in

income, he nevertheless consciously included the downpayments in

income, thereby creating a method of accounting with respect to

this material item.   There is no analogy to a posting error in

this case, and it cannot be said that BMP never adopted the

method of accounting at issue.

     A case which is more directly on point is a case decided by

the U.S. Court of Appeals for the Third Circuit,4 Commissioner v.


     3
      This Court has stated that a “posting error is an error in
‘the act of transferring an original entry to a ledger.’” Wayne
Bolt & Nut Co. v. Commissioner, 93 T.C. 500, 510-511 (1989)
(quoting Black’s Law Dictionary 1050 (5th ed. 1979)).
     4
      But for the provisions of sec. 7463(b), the decision in
                                                   (continued...)
                                - 9 -

O. Liquidating Corp., 292 F.2d 225 (3d Cir. 1961), revg. T.C.

Memo. 1960-29.    In O. Liquidating Corp., the taxpayer corporation

received annual dividend payments which were attributable to

insurance company surpluses earned in a prior year, but which

were declared and distributed after the close of that year.    The

taxpayer recorded the dividends in its accounts in the year of

the surpluses rather than in the year the dividends were declared

and paid.    Both the taxpayer and the Commissioner agreed that--

pursuant to the taxpayer’s otherwise applicable accrual method of

accounting--these dividends should have been reported in the year

of their declaration and payment.   The court found, however, that

regardless of the impropriety of this treatment under the

taxpayer’s overall accrual method, the taxpayer was required to

obtain consent before correcting the error.

     The opinion in O. Liquidating Corp. is controlling in this

case:    Even if BMP was correcting the application of an overall

cash method of accounting, it was nevertheless a change in its

method of accounting which required the consent of the Secretary




     4
      (...continued)
this case would be appealable to the U.S. Court of Appeals for
the Third Circuit. See sec. 7482(b)(1)(A). This Court generally
applies the law in a manner consistent with the holdings of the
Court of Appeals to which an appeal of its decision lies, see
Golsen v. Commissioner, 54 T.C. 742 (1970), affd. 445 F.2d 985
(10th Cir. 1971), even in cases subject to sec. 7463(b).
                               - 10 -
under section 446(e).5   Because BMP did not obtain that consent,

we sustain respondent’s determination in the notice of deficiency

that BMP must include the disputed amounts in income in the year

in which they were received.

     Reviewed and adopted as the report of the Small Tax Case

Division.

     To reflect the foregoing,

                                      Decision will be entered

                                 for respondent.




     5
      Thus, whether the disputed amounts are “advance payments”
or “deposits” under Commissioner v. Indianapolis Power & Light
Co., supra, is irrelevant because, under Commissioner v. O.
Liquidating Corp., supra, consent would be necessary to change
the treatment of the amounts in either case.
