Table of Contents

Constructive Receipt: Definition, How It Works, and Example

By

Adam Hayes

Updated July 02, 2023

Reviewed by

Janet Berry-Johnson

Fact checked by

Yarilet Perez

What Is Constructive Receipt?

Constructive receipt is an accounting term that requires an individual or business to pay taxes on income despite the fact that the money has not yet been received in actuality. What matters instead is that the recipient of the income is able to control or utilize that money even when it is not in hand, for instance being able to spend funds deposited from a check before it has cleared. Constructive receipt matters for reporting taxable income, especially under the cash-basis method of accounting.

Constructive receipt refers to situations where income can be used despite the fact that this money has not yet been physically received.
Constructive receipt occurs in cash accounting situations, but it does not apply or occur with the use of accrual accounting situations.
Taxpayers must include any income on their taxes based on the year that income was constructively received, even if they don’t have possession of the funds.

How Constructive Receipt Works

An individual is considered to be in constructive receipt of income when they have the ability to control or utilize the funds, even if they do not have direct possession of them, or if it is guaranteed they will have the ability to draw upon the funds in the future.

A business is said to be in constructive receipt if the business has the ability to use the money without restriction or if it has been deposited into the business's account. In terms of income, when there is constructive receipt of income, this means that taxpayers cannot pay their taxes on income or compensation that has not been spent yet. Constructive receipt doctrine applies to employees that use the cash-basis method of accounting. It does not apply to the accrual method of accounting. The doctrine of constructive receipt also stipulates that the receipt of funds by an agent is considered to be received by the principal at that time as well.

IRS in Publication 538 describes constructive receipt as “an amount [that] is credited to your account or made available to you without restriction.” This document is published by the Internal Revenue Service (IRS) and details commonly recognized accounting methods and how to report taxable income under each.

Constructive receipt of income prevents taxpayers from deferring tax on income or compensation they have not yet utilized or spent.

Example of Constructive Receipt

As an example of constructive receipt, say that an employee received a paycheck at the end of the year. For tax purposes, this person must report the amount of the paycheck as earned income for that year, even if they did not actually deposit the check until after the new year. What matters here is not that the individual actually received the benefit of spending or depositing that money, but that they possessed the capacity to do so—even if they delayed or forwent that capacity in real life.

What Is the Purpose of the Constructive Receipt Doctrine?

The constructive receipt doctrine states that income is taxable when it is received, even if it is not yet under the physical control of the taxpayer. This rule is intended to prevent taxpayers from unreasonably delaying their payments in order to reduce their taxable income.

How Was the Constructive Receipt Doctrine Established?

The constructive receipt doctrine was based on the case of Davis v. Commissioner, where the plaintiff, Beatrice Davis, received a high-value check from her former employer on December 31, 1974. Because the plaintiff was not at home when the post office attempted to deliver the check, she was unable to collect it until the following tax year and did not include it in her 1974 taxes. The Tax Court ruled that Davis had "constructively received" the check in 1974 and therefore had to include it in her 1974 income tax statement.

Do I Have to Pay Taxes on Uncashed Checks?

Generally, yes. Under the doctrine of constructive receipt, if you receive checks as part of your documented income (W-2, 1099, etc.) and you meet the requirements to file income taxes, you must include these in your income statement.

The Bottom Line

Constructive receipt is a principle in tax law that states that income is taxable when a taxpayer takes control of that income, regardless of whether it is under their direct control. The main purpose of this doctrine is to prevent taxpayers from gaming the system in order to reduce their tax obligations.

Article Sources

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