What is a Constructive Receipt?

Constructive receipts are a mechanism used for determining the gross income of a taxpayer. While the concept of a constructive receipt is common in many nations, laws within the United States draw clear lines regarding the differences between constructive receipt and actual receipt of income. The Internal Revenue Service or IRS uses these laws to regulate the evaluation of taxpayers and returns.

Essentially, a constructive receipt relates not only to income that is actually received during the tax period, but also income that was earned but not actually received during the same period. Essentially, the question of whether or not the taxpayer intentionally chose to not receive the income during the period is the key to understanding a constructive receipt. This determination is necessary in order to ascertain if the taxpayer deliberately chose to defer income in order to avoid a tax obligation that is not considered legal and proper by the laws of the land. At the same time, the process for evaluating constructive receipt will determine if the income could not be received due to factors beyond the control of the taxpayer.

One example of income that would not be subject to constructive receipt are earnings for projects undertaken by a freelance professional. Often, compensation for freelance projects are paid in accordance with terms and conditions outlined in the contract between the freelancer and the client. Because the payments may not commence until all terms and conditions are met, this could mean that the income is earned during one tax period, but not actually received until the following period. Since the receipt of the payment is controlled by the payer and not the freelancer, the income is considered to cash-basis in nature, and not any type of compensation plan that would have allowed the freelancer could have received at the time the income was earned. Thus, there would be no evidence that the freelancer had intentionally chosen to defer receipt of the income.

Dividend payments are another example of income that could be subject to the laws that govern constructive receipt. If the dividend payments are deferred due to a request initiated by the investor, the dividends would probably be considered under the terms of constructive receipt and treated as if the income was received in the tax period under consideration. However, if the issuing company chooses to initiate a deferment on the payment of dividends for some reason, there is a good chance that the dividend payments would not be subject to taxes until after the dividend payments were actually received.

Laws regarding the actual application of the principles of constructive receipt vary from one country to another. This makes it imperative for anyone who has income deferred for any reasons to check with tax professionals within the jurisdiction before assuming that any deferred payments are not subject to taxation until the income is actually received.