As tariff refunds are issued, the practical question becomes how companies should report them. Explore common tax reporting issues.
Following the U.S. Supreme Court's decision invalidating the IEEPA tariffs, the government has stopped collecting those tariffs and is refunding amounts importers previously paid.
Because tariffs are generally capitalized into inventory and recovered through cost of goods sold (COGS) as inventory is sold, refunds will be taxed the same as the original tariff.
Learn more about how tariff refunds will be taxed and how your company should manage them.
Why are businesses receiving tariff refunds?
In February, the U.S. Supreme Court held tariffs imposed under the International Emergency Economic Powers Act (IEEPA) were unlawful. U.S. Customs and Border Protection (CBP) stopped collecting the IEEPA tariffs and is refunding amounts importers previously paid.
As those refunds — frequently accompanied by interest — are issued, the practical question becomes how, and in which year, companies should report them. Explore four common tax reporting issues pertaining to tariff refunds and how to handle them.
1. Reporting the refund depends on the status of the underlying goods
Whether a refund is income turns on the tax benefit rule: A recovery of a previously deducted amount is income only to the extent the earlier deduction reduced tax. The result therefore differs across the three categories of goods:
Goods remaining in inventory
The refund isn’t included in gross income. The tariff is still embedded in the cost of the on-hand goods and hasn’t yet reduced income, so companies should reduce the cost (invoice price or production cost) of such.
Goods sold and reported in COGS in a prior tax year
Include the refund in gross income in the year your right to the refund is fixed. The tariff already produced a tax benefit through prior year COGS, so a later recovery is taxable.
Goods sold and reported in COGS in the current tax year
Include the refund in gross income in the year of receipt or accrual — the same treatment as goods sold in a prior year — because the related cost has already been relieved from inventory through COGS. As a practical alternative, a refund received in the same year the goods were sold may be recorded as a price adjustment reducing that year's COGS, producing the same net effect on taxable income.
Confirm the entity receiving the refund is the same entity that obtained the original tax benefit. The tax benefit rule generally applies only where the taxpayer recovering the amount is the taxpayer who claimed the related deduction (or a successor to the right to the recovery). So in affiliated group, successor, and transfer pricing structures — for example, where an importer of record, a principal company, and a limited risk distributor are involved — additional analysis may be needed to identify which entity must take the refund into account.
Timing for accrual method taxpayers
An accrual method company takes a refund into income when all events fixing the right to the refund have occurred and the amount is determinable with reasonable accuracy — and no later than when it’s reflected in an applicable financial statement. Because a claim may remain subject to CBP approval or ongoing litigation, the right generally isn’t fixed until all non-ministerial contingencies are resolved.
Timing for cash method taxpayers
A cash method company takes the refund into account when it’s actually or constructively received, regardless of when the right to the refund becomes fixed. The interest component is likewise reported when received.
2. Interest on the refund is separately taxable
Interest the federal government pays on a tariff overpayment is ordinary, taxable interest income — not a reduction of COGS or inventory. Either report it in the year received (cash method) or when the right to the interest is fixed and the amount is determinable (accrual method).
Explore IEEPA tariff refunds frequently asked questions (FAQs).
3. Refunds returned to customers reverse the original charge
If you previously recovered the tariff by charging it to your customers — increasing the sales price and gross receipts — and must now return the CBP refund to those customers, the reporting depends on when the related sales occurred.
Sales that occurred in a prior tax year
Since the tariff charge was already included in gross receipts in the earlier year, returning the refund to the customer is a deductible ordinary and necessary business expense (a repayment of amounts previously included in income) in the year the obligation to the customer is fixed and economic performance occurs. Claim of right relief generally is unavailable because Section 1341(b)(2) excludes amounts previously included in gross income by reason of the sale of inventory.
Sales that occurred in the current tax year
Treat the amount returned to the customer as a current year reduction of gross receipts (a price adjustment) offsetting the refund recognized that year.
Timing of the deduction
For accrual method companies, the obligation to return refunds to customers isn’t deductible until the all-events test is met and economic performance has occurred. The all-events test requires that all events have occurred establishing the fact of the liability and the amount be determinable with reasonable accuracy; a liability remaining conditional or contingent isn’t fixed and can’t be accrued until the condition is resolved. A liability to remit refunds is a rebate or refund liability, so economic performance occurs only as your company pays the customer, not merely when you accrue or record the obligation.
The recurring item exception
The recurring item exception may accelerate the deduction into the earlier year in which the all-events test is met (disregarding economic performance) if:
- Your company returns the refund to the customer on or before the earlier of the date you file a timely return for that taxable year or 8½ months after year end
- The liability is recurring in nature and consistently treated as incurred in that year
- Either the amount isn’t material or accruing it in that year results in a better match against the related income
The exception is unavailable to tax shelters.
Since the determination of whether the obligation to remit is fixed and unconditional often turns on the specific contract or invoice terms with the customer, input from your attorneys may be required. These economic performance and recurring item exception questions can be fact intensive.
4. A duty to remit to customers usually doesn’t create an exclusion
Generally, a contractual obligation to pass the refund on to customers doesn’t, by itself, keep the refund out of your gross income. If the underlying tariff was previously recovered — whether through COGS or as a deduction — the refund is an includible recovery under the tax benefit rule. The offsetting obligation to return the funds to customers is then accounted for separately as a deduction or a reduction of receipts, which typically produces a wash rather than an exclusion.
Exclusion is appropriate only in narrow circumstances — for example, where the company never obtained a tax benefit from the tariff, or where the company acts as a genuine conduit or agent that never held the funds under a claim of right. Absent those facts, you should report the refund and account for the remittance obligation separately.
How CLA can help with IEEPA tariff refund tax questions
CLA’s tax professionals can help companies determine which tax rules apply to which types of refund and how they should be reported. Questions about how to obtain a refund — including eligibility, filing claims, liquidation status, and the process — can be handled by your customs broker or trade lawyer.