Cash Method for Manufacturers: §448 and §471(c) Explained (2026)
MANUFACTURING TAX INSIGHTS
SHORT ANSWER A manufacturer can use the cash method of accounting if its average annual gross receipts for the prior three years are $32 million or less for 2026 ($31 million for 2025). That test comes from IRC §448(c). IRC §471(c) then lets the same company skip traditional tax inventory accounting. |
What is the cash method for manufacturers?
Under the cash method, you report income when customers pay you and deduct most expenses when you pay them. Under the accrual method, you report income when you earn it, even if the invoice is still unpaid.
For a growing manufacturer with large receivables, that difference can push hundreds of thousands of dollars of taxable income into a later year.
TIMING, NOT PERMANENT The cash method is a timing deferral. The tax is deferred, not eliminated. Deferred income is taxed later, often when the business grows past the threshold or is sold. |
Example: a $22 million Wisconsin manufacturer switches to cash
Here is what that timing difference can be worth. A hypothetical Wisconsin metal fabricator is an S corporation on the accrual method. Its three-year average gross receipts are $22 million, well under the $32 million 2026 threshold. At the start of the year of change it has these balances:
Item | Balance | Effect of switching to cash |
Accounts receivable | $3,100,000 | Removed from income: −$3,100,000 |
Accounts payable and accrued expenses | $1,200,000 | Deductions reversed: +$1,200,000 |
§263A costs capitalized in ending inventory | $350,000 | Released by UNICAP exemption: −$350,000 |
Net §481(a) adjustment | −$2,250,000 |
THE MATH −$3,100,000 + $1,200,000 − $350,000 = −$2,250,000 receivables + payables − UNICAP costs = net §481(a) adjustment $2,250,000 × 37% = $832,500 net adjustment × 37% top federal rate = federal tax deferred |
THE RESULT −$2,250,000 deduction, taken in full in the year of change ≈ $832,500 of federal tax deferred at the 37% top rate |
The §481(a) adjustment is the one-time catch-up created by changing methods, and the UNICAP release comes from the §263A exemption; both are explained below. The figure ignores the §199A deduction and state tax, so the real number will differ. The deferral lasts as long as the company keeps the method and its receivables stay at that level. If the company later crosses the threshold, most of that income comes back.
This example is illustrative. Your result depends on your balances, entity type, and other elections.
The rest of this guide covers who qualifies, how §471(c) changes inventory, what else the $32 million test unlocks, and how to make the switch.
Who qualifies: the §448(c) gross receipts test
You pass the §448(c) test for a tax year if your average annual gross receipts for the three prior tax years do not exceed the inflation-adjusted threshold.
Tax years beginning in | §448(c) threshold |
2026 | $32 million |
2025 | $31 million |
2024 | $30 million |
2023 | $29 million |
2022 | $27 million |
2018 (TCJA base) | $25 million |
HOW TO RUN THE TEST FOR 2026 Step 1: Add gross receipts for 2023, 2024, and 2025. Step 2: Divide by three. Step 3: Compare the result to $32 million. At or under qualifies. |
Does the gross receipts test apply to your business?
Yes, whatever your entity type. Section 448 itself only bars C corporations, and partnerships with a C corporation partner, from the cash method. But manufacturers carry inventory, and inventory has historically required accrual accounting for purchases and sales. Passing the §448(c) gross receipts test is what lets an S corporation, LLC, or sole proprietor use the cash method anyway, through §471(c).
Three rules that trip up manufacturers
Rule | What it means | Example | |
Related companies count together | Entities under common control are treated as one taxpayer under §448(c)(2) and §52. | Two affiliates with $20 million each are one $40 million company for this test. | |
Gross receipts are not profit | The test uses total sales net of returns and allowances, plus interest, rents, royalties, and other income. Cost of goods sold is not subtracted. | A company with $35 million in sales and $3 million in profit is over the $32 million limit. | |
Tax shelters never qualify | A “syndicate” under §448(d)(3) loses eligibility at any size. A business is a syndicate when more than 35% of its losses go to owners who don’t actively participate. | An S corporation or LLC with passive investors can fail in a loss year, even at $5 million in sales. | |
QUICK CHECK Add up gross receipts for every related company, use sales rather than profit, and confirm passive owners aren’t absorbing more than 35% of any losses. If all three hold and the three-year average is $32 million or less, the cash method is on the table. | |||
How §471(c) changes inventory for small manufacturers
IRC §471(c) lets a business that passes the §448(c) test stop keeping inventories under the traditional §471(a) rules. It can choose one of the simpler methods below instead.
§471(c) option | Who can use it | How inventory costs are deducted | |
Non-incidental materials and supplies (NIMS) | Any qualifying business | In the year the items are used or consumed in production, or the year paid, whichever is later | |
Applicable financial statement (AFS) method | Businesses with audited or other qualifying financial statements | Follows the inventory method in the AFS | |
Books and records method | Businesses without an AFS | Follows the method in the company’s own books and records | |
WATCH OUT: RAW MATERIALS ARE NOT DEDUCTED WHEN BOUGHT Under the NIMS option, steel sitting on the shop floor at year-end is still not deductible until it goes into production. The cash method accelerates receivables, not unused inventory. | |||
The books and records method can be more flexible, but the IRS expects it to reflect how you actually account for inventory internally. A year-end physical count you never book is not a method.
What else the $32 million test unlocks
The same §448(c) number controls several other rules. Passing it opens all of them at once; crossing it closes all of them at once.
Provision | What passing the test does |
§448 cash method | Report income when collected and deduct most expenses when paid |
§471(c) inventory | Use NIMS or your book method instead of full tax inventories |
§263A(i) UNICAP | Exempt from capitalizing indirect production costs into inventory |
§163(j)(3) interest limit | Exempt from the 30%-of-adjusted-taxable-income cap on business interest |
§460(e) contracts | Small construction contracts can avoid percentage-of-completion |
For most manufacturers, the UNICAP exemption is worth as much as the cash method itself. It removes a recurring annual calculation and the deferral of indirect costs that comes with it.
PLAN FOR THE DAY YOU CROSS THE LINE Once your three-year average exceeds the threshold, you must change back to accrual and full inventory accounting for that year. That change usually creates a positive §481(a) adjustment, which means tax comes due on the income that was deferred. A rolling three-year gross receipts tracker gives you a year of warning. |
How to switch: Form 3115 and the §481(a) adjustment
A qualifying small business can usually change to the cash method under the IRS automatic consent procedures. That means no advance ruling and no user fee.
Step | What to do | |
1. Confirm eligibility | Run the three-year gross receipts average, including related entities, and check the tax shelter rules. | |
2. Model the change | Compare receivables against payables and accrued expenses. A company with small receivables or large customer deposits may see little benefit, or a positive adjustment. | |
3. Decide the companion changes | Most manufacturers file the cash method, §471(c) inventory, and §263A exemption changes together on one Form 3115. | |
4. File Form 3115 | Attach the original to the timely filed return, including extensions, for the year of change. Send a signed copy to the IRS by the same date. | |
5. Take the §481(a) adjustment | A negative adjustment is deducted in full in the year of change. A positive adjustment is generally spread over four years. | |
6. Check Wisconsin | Wisconsin generally follows the federal accounting method, but confirm conformity and any state adjustments before filing. | |
NO AMENDED RETURNS NEEDED The change is made going forward on Form 3115. The catch-up amount from prior years is handled entirely through the §481(a) adjustment. Model the 2026 decision before the 2026 return is prepared. | ||
Talk to Lucida Tax + Accounting Solutions about your accounting method
The cash method is one of more than a dozen federal and Wisconsin strategies in Lucida’s manufacturing tax planning framework. It works best when it is modeled alongside LIFO, UNICAP, bonus depreciation, and the Wisconsin Manufacturing and Agriculture Credit, because the same income and inventory numbers drive all of them.
At Lucida Tax + Accounting Solutions, we are committed to illuminating financial possibilities and empowering our clients through exceptional accounting services. With expertise, integrity, and a client-centric approach, we aim to provide clarity, transparency, and peace of mind in navigating the complexities of financial management.
Find out what a switch is worth. Let Lucida’s tax team model the cash method, §471(c), and UNICAP changes for your business before your 2026 return is prepared. |
Frequently asked questions
What is the §448(c) gross receipts threshold for 2026?
The threshold is $32 million for tax years beginning in 2026, up from $31 million for 2025. It is adjusted for inflation each year.
Can a manufacturer with inventory use the cash method?
Yes, if it passes the §448(c) gross receipts test. Section 471(c) then lets it treat inventory as non-incidental materials and supplies or follow its book method.
Does the cash method let me deduct raw materials when I buy them?
Not under the NIMS approach. Materials are deducted when used or consumed in production, or when paid, whichever is later.
Is a manufacturer under $32 million exempt from UNICAP?
Yes. Section 263A(i) exempts businesses that pass the §448(c) test from the uniform capitalization rules.
Do I need to amend prior returns to switch to the cash method?
No. The change is made prospectively on Form 3115 under automatic consent, and the catch-up amount is handled through the §481(a) adjustment.
Is the cash method a permanent tax savings?
No. It is a timing deferral. The deferred income is taxed later, often when the business grows past the threshold or is sold.
What happens if my business grows past $32 million?
You must change to accrual and full inventory accounting for the year you fail the test. That usually triggers a positive §481(a) adjustment spread over four years.
Still have questions about the cash method? Our tax team can run the §448(c) test for your business and show you what a switch would be worth before your 2026 return is prepared. |
Sources
- Office of the Law Revision Counsel, “26 U.S.C. §448, Limitation on use of cash method of accounting” (uscode.house.gov/view.xhtml?req=granuleid:USC-prelim-title26-section448&num=0&edition=prelim)
- IRS, “Rev. Proc. 2025-32, 2026 inflation adjustments” (irs.gov/pub/irs-drop/rp-25-32.pdf)
- NATP, “Section 448(c) benefits small business clients may be missing” (natptax.com/news-insights/blog/section-448-c-benefits-small-business-clients-may-be-missing/)
