When it comes to the payment of an IC-DISC commission, we occasionally receive questions related to the transfer of money. Two of the most popular questions are: 1) Is a simple journal entry sufficient to claim the IC-DISC benefit, and 2) What if we don’t have enough available cash to make the payment? Since this initial payment or transfer must occur within the first 60 days following the close of the IC-DISC’s tax year, it is important to be aware of the rules and regulations in order to be prepared during this time.
The first question, relating to whether a simple journal entry is sufficient, is addressed in Code § 1.994-3(e)(3)(ii) which states “Payment must be in the form of money, property (including accounts receivable from sales by or through the DISC), a written obligation which qualifies as debt under the safe harbor rule of § 1.992-1(d)(2)(ii), or an accounting entry offsetting the account receivable against an existing debt owned by the person in whose favor the account receivable was established to the person with whom it engaged in the transaction.” Simply stated, there must be a transfer of property to claim the IC-DISC benefit. More often than not, the easiest way to satisfy this requirement is for the company to pay the IC-DISC in cash. In doing so, the cash hits the IC-DISC bank account showing that the payment was satisfied within those first 60 days. Further, this Code section also states that the only time an accounting entry is acceptable is when it is to offset an account receivable against an existing debt, which means that a transfer of property already has taken place.
So what happens if a company does not have the cash to make this initial payment? The easiest way to get around this issue is to document a written obligation or create a note for the commission payment to satisfy the 60-day requirement. Then, a little further down the road when cash is available, the company can pay off the note or written obligation before it begins to accrue interest.
In summary, a simple journal entry is not sufficient when it comes to the payment of transfer price or commissions. Additionally, we suggest that regardless of how the transfer of property is handled within those first 60 days, that at some point it be settled in cash to eliminate any uncertainty.