Interest Computation Under Look-Back Method

The IRS uses Form 8697 to figure the interest due or to be refunded under the look-back method of section 460(b)(2) on certain long-term contracts that are accounted for under either the percentage of completion method or the percentage of completion-capitalized cost method. Below is a brief synopsis of understanding the basis of the calculation and how to compute the interest in TaxInterest software.

If the contract price or costs are revised to reflect amounts properly taken into account after the contract completion date for any reason, you must apply the look-back method in the year such amounts are properly taken into account, even if no other contract is completed in that year.

For the increase or decrease in tax for each prior year, interest due or to be refunded must be computed at the applicable interest rate and compounded on a daily basis, generally from the due date (not including extensions) of the return for the prior year until the earlier of:

• The due date (not including extensions) of the return for the filing year or
• The date the return for the filing year is filed and any income tax due for that year has been fully paid

The overpayment rate designated under section 6621 is used to calculate the interest for both hypothetical overpayments and underpayments. The interest accrual period starts on the day after the return due date (not including extensions) for each prior tax year and ends on the return due date for the following tax year. The interest rate in effect for the entire interest accrual period is the overpayment rate determined under section 6621(a)(1) applicable on the first day of the interest accrual period.

Even though the interest rates change quarterly, for look-back purposes the interest rate stays the same for the accrual period, which is generally one year. In TaxInterest, we built a custom table based on the tax due date and the interest each year at that point in time, e.g., March 16th each year. If you have a need for this table, just email support@TimeValue.com and we would be glad to send you it.

Once you have the appropriate interest rate table, you would do a computation each year for Form 8697. In TaxInterest, the inputs would be:

Your Report would include annual interest rate adjustments and calculations:

If you have any questions using TaxInterest software, please give our Support Team a call at 800-426-4741 or email at support@TimeValue.com.