Completed Amenities were Part of the Contract

March 5, 2014

The Tax Court concluded in a recent case that a developer of a planned residential community did not have to recognize income under the completed contract method of accounting until the common improvements were completed.

Shea Homes and its related entities developed large planned residential communities. Shea contended that final completion and acceptance under the completed contract method of accounting did not occur until the last road was paved and the final performance bond required by state and municipal law was released.

The IRS contended that the subject matter of Shea’s contracts consisted only of the houses and the lots upon which the houses were built. Under its interpretation, the contract for each home met the final completion and acceptance test upon the close of escrow for the sale of each home. The IRS also contended that contracts entered into and closed within the same tax year were not long-term contracts eligible for the completed contract method of accounting.

The court determined that Shea was permitted to use the completed contract method of accounting. Further, the court held that the subject matter of the contracts consisted of the home and the larger development, including amenities and other common improvements (Shea Homes, Inc. v. Commissioner, 142 TC No. 3, Feb. 12, 2014).

The court reasoned that the primary subject matter of the contracts included the house, the lot, improvements to the lot and common improvements to the development. The amenities of the development were of great importance to, and a crucial aspect of, the taxpayers’ sales effort, the attainment of governmental approval of the development and the buyers’ purchase decision. Accordingly, the amenities were an essential element of the home purchase and sale contract.