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 Rev. Rul. 78-40

1978-1 C.B. 136

Sec. 451

IRS Headnote

Fees for credit card services; cash method bank. The fees that a cash method bank operating a credit card plan charges for its services by deducting the fees from amounts it periodically remits for credit sales to merchants enrolled in the plan are includible in the bank's income as payments are received from the cardholders on their accounts.

Full Text

Rev. Rul. 78-40

Advice has been requested concerning when service fees charged to enrolled merchants of the taxpayer's credit card plan are to be included in the taxpayer's income, under the circumstances described below.

The taxpayer, a bank that uses the cash receipts and disbursements method of accounting, operates a credit card plan. Under the plan cardholders may purchase from enrolled merchants goods, services, or gift certificates. The agreement between the cardholder and the taxpayer provides that the cardholder agrees to pay the total amount shown on the sales slip. If such indebtedness is not paid within 30 days from the billing date, the cardholder is subject to a finance charge on the amount outstanding each month.

The sales slips reporting the cardholder's purchases together with a form summarizing the sales periodically are forwarded to the taxpayer by the enrolled merchants. Under the terms of the agreement between the taxpayer and the enrolled merchants the taxpayer remits to the enrolled merchants an amount shown on the sales slip less a service fee. This fee is charged to the enrolled merchants in connection with the services performed by the taxpayer in operating the credit card plan and no part thereof is charged for the use of its money. Under the agreement the amount of the fee (also referred to as "discount") is based on the volume of business transacted with a particular enrolled merchant.

The specific question presented is whether the service fee (discount) charged the enrolled merchant is includible in the taxpayer's income at the time the payments are made by the taxpayer to the enrolled merchants or at the time the payments on the account are received from the cardholders.

Section 1.446-1(c)(1)(i) and section 1.451-1(a) of the Income Tax Regulations provide, in part, that, under the cash receipts and disbursements method of accounting, items of income are includible in gross income when actually or constructively received.

Situation 5 of Rev. Rul. 70-540, 1970-2 C.B. 101, illustrates the treatment of service fees received by a taxpayer under the cash receipts and disbursements method of accounting. In Situation 5, X, a lending institution, makes a mortgage loan to B, an individual, in the amount of $20,000 plus $100 charge for service fee. Thus, B executes a mortgage note in the amount of $20,100. Rev. Rul. 70-540 holds that if X uses the cash receipts and disbursements method of accounting the service fee is includible in the gross income of X ratably as payments are made on the note.

In the instant case, the taxpayer is entitled to payment from the cardholder at the time required under its agreement with the cardholder. This could be payment in full at the time billed to the cardholder or monthly payments with a finance charge on the unpaid balance. Under these circumstances, there is no constructive receipt of the service fee when the taxpayer makes remittance to the enrolled merchants.

Accordingly, in the instant case, the service fees (discount) charged to the enrolled merchants in connection with its credit card plan are includible in the taxpayer's income as payments on the account are received by the taxpayer from the cardholders. For example, if the service fee (discount) for a particular enrolled merchant is 4 percent, then 4 percent of the payment (other than any finance charge) received from a cardholder with respect to an account created as a result of a transaction with that particular enrolled merchant would be attributable to the service fee (discount) and would be included in the taxpayer's income in the taxable year the payment was received.

With respect to when such fees are includible in the income by a taxpayer that uses an accrual method of accounting, see Rev. Rul. 71-365, 1971-2 C.B. 218, which holds that the fee charged the enrolled merchants must be accrued by the taxpayer in the year in which the taxpayer makes remittances to the merchants, since all events have occurred at that time that fix the taxpayer's right to receive such amounts and the amount thereof is determinable.

Any change by the taxpayer from its present method of reporting fees charged to merchants in connection with its credit card plan is a change in method of accounting subject to the provisions of sections 446 and 481 of the Internal Revenue Code of 1954 and the regulations thereunder.