Under the doctrine of constructive receipt, a cash-basis taxpayer who has an unrestricted right to receive income is treated as though they actually received the income-even if they did not. Thus, even when a taxpayer has not received possession of the income, the taxpayer is generally subject to tax as though they received possession of the income when the income is set apart of the taxpayer, credited to the taxpayer's account, or made available to the taxpayer. The doctrine, however, is subject to some limitations, and income is not constructively received where the taxpayer's control of its receipt is subject to substantial limitations or restrictions.
What is the Doctrine of Constructive Receipt?
The doctrine of constructive receipt provides that a taxpayer is subject to tax on an item of income if the taxpayer has an unrestricted right to determine when that item of income will be paid. The income tax principle was first expressed by the Supreme Court in the 1930 case of Corliss v. Bowers, 281 U.S. 376 (1930), where Justice Holmes stated that "[i]ncome that is subject to a man's unfettered command and that he is free to enjoy at his own option may be taxed to him as his income, whether he sees fit to enjoy it or not."
The Tax Court has elaborated, explaining that the doctrine of constructive receipt is based on the principle that income is received or realized by cash method taxpayers when it is made subject to the will and control of the taxpayer and can be, except for his own action or inaction, reduced to actual possession.
The constructive receipt doctrine is embodied in Treasury Regulations, including section 1.451-2(a), which provides, in part, as follows:
Income although not actually reduced to a taxpayer's possession is constructively received by him in the taxable year during which it is credited to his account or set apart for him so that he may drawn upon it at any time. However, income is not constructively received if the taxpayer's control of its receipt is subject to substantial limitations or restrictions. Thus, if a corporation credits its employees with bonus stock, but the stock is not available to such employees until some future date, the mere crediting on the books of the corporation does not constitute receipt.
That is, an item of income (for example compensation for services) is includible in gross income for the taxable year in which it is actually or constructively received. And income is constructively received in the year in which, although not actually received, it was made available so that the taxpayer could actually receive it at any time.
Cash vs. Accrual Accounting
The doctrine of constructive receipt is only applicable to cash method taxpayers. More precisely, it is already built into the accrual method of accounting.
Under the accrual method, income is included under the "all events" test: in the tax year when all events have occurred that fix the right to receive the income and the amount of the income can be determined with reasonable accuracy. Under IRS guidance, the "all events" test is satisfied when (1) the required performance takes place, (2) payment is due, or (3) payment is made, whichever happens first.
Under the cash receipts and disbursements accounting method, income is recognized when payment is actually or constructively received. Thus, when income is deemed to be received under the constructive receipt doctrine, a cash-basis taxpayer is subject to tax on the income, even if they did not actually receive possession of it.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.