Corporate taxpayers required to file the new Schedule M-3 with their Form 1120 can find and request answers to their questions about the new schedule using a web-based list of frequently asked questions set up by the IRS in partnership with stakeholder groups.

IRS estimates that approximately 50,000 large and mid-size corporations are now required to use the schedule. The IRS says the goal of the M-3 is to increase transparency between reported financial accounting net income and reported tax accounting income. The form will help to strengthen oversight of corporations and their financial statement integrity.

The Corporations section of the IRS web site features a Schedule M-3 page that includes published material about the schedule, including the Schedule M-3 instructions and the frequently asked questions, which are updated weekly to add answers to additional questions submitted by taxpayers. The frequently asked questions appear on the web site arranged and keyed to the line items and sections of the Schedule M-3 Instructions.

The Schedule M-3 and Selection for Audit. The Schedule M-3 is also a potential selection tool (or de-selection tool) for audit. Corporations in the IRS Large and Midsize Business Division (LMSD) must complete the Schedule M-3 for tax years ending on or after December 31, 2004. Such corporations must have at least $10 million in assets on the combined financial accounting balance sheet of the set of corporations included in the corporation’s U.S. income tax return. This is commonly a different (usually smaller) set of corporations than is included in the corporation’s published financial statements because non-U.S. corporations are included in the financial statements, but not in the U.S. consolidated tax return.

GAAP Financial Statements and the $10 Million Asset Test. Many corporations do not normally prepare a set of GAAP financial statements for the U.S. consolidated tax return entities. However, it is the GAAP financial statements for the U.S. consolidated tax return entity that must have at least $10 million of assets in order for the corporation to be subject to the Schedule M-3 reporting requirement. Therefore, substantial complexity and consequent additional information gathering is required just to know whether or not the corporation has to complete the Schedule M-3.

The IRS is looking for book-tax differences between the financial accounting and the tax accounting statements to help in assessing the level of the corporation’s compliance. The disclosures in the Schedule M-3 may increase the risk of audit for some corporations. Also, the assessment of the corporation’s compliance will come much earlier in the audit selection process.

Reaction from Corporate Tax Department Directors. Corporate tax department directors indicate the Schedule M-3 is causing a lot more work. The challenge is determining just how much additional work is required, who should do it and whether it can be done by the tax return filing due date. Many corporate returns will be extended as a result of the Schedule M-3.

Penalties for Noncompliance with the Schedule M-3 Requirement. There are no penalties specific to the Schedule M-3. However, the IRS has indicated if sincere efforts are not being made to properly prepare the schedule, penalties may be forthcoming.

More Schedule M-3s Are On The Way. The IRS also announced that it intends to include a Schedule M-3 in the Forms 1120S, 1120PC, 1120L, 1120F, and 1065 beginning with tax years ending on or after December 31, 2005.

About the Author
Steven Dilley, Ph.D., J.D., CPA, is a frequent speaker on tax issues at MACPA continuing education programs.

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