Which of the following entities may not use the cash method of accounting?

A partnership with average annual gross receipts in excess of $5 million.
A C corporation whose average annual gross receipts for the preceding 3 taxable years do not exceed $5 million.
A C corporation that is substantially owned by its employees and whose business is selling goods with annual gross receipts in excess of $5 million for all tax years since its inception.

An S corporation.
Explain your answer -
2. Dowd, a cash-basis engineering consultant, wanted to defer income to next year. A client who was in Dowd’s office on December 31 of the current year offered to pay his $2,000 bill immediately, but Dowd told him to pay in January. A check for $5,000 from another client arrived in the mail on December 29, and Dowd told his office manager not to deposit it until January. Dowd also told his office manager not to send a client a bill for $3,000 for services performed in the current year until January of next year. How much income from these transactions should Dowd report in the current year?

To determine which entity may not use the cash method of accounting, we need to evaluate each of the entities mentioned in the options.

1. A partnership with average annual gross receipts in excess of $5 million.
A partnership with average annual gross receipts in excess of $5 million may not use the cash method of accounting. According to the Internal Revenue Service (IRS) rules, partnerships with annual gross receipts exceeding $5 million must use the accrual method of accounting.

2. A C corporation whose average annual gross receipts for the preceding 3 taxable years do not exceed $5 million.
A C corporation whose average annual gross receipts for the preceding 3 taxable years do not exceed $5 million may use the cash method of accounting. The IRS allows C corporations with gross receipts below the $5 million threshold to use either the cash or accrual method of accounting.

3. A C corporation that is substantially owned by its employees and whose business is selling goods with annual gross receipts in excess of $5 million for all tax years since its inception.
A C corporation that is substantially owned by its employees and has annual gross receipts in excess of $5 million must use the accrual method of accounting. The IRS requires this type of corporation to use accrual accounting regardless of their gross receipts.

4. An S corporation.
An S corporation can generally use the cash method of accounting. S corporations are allowed to use either the cash or accrual method unless they have inventory. If an S corporation has inventory, it must use the accrual method of accounting.

Regarding Dowd's income from the mentioned transactions, we need to apply the rules of cash method accounting.

- The offer from the client to pay the $2,000 bill immediately, but Dowd told him to pay in January:
Since Dowd is a cash-basis taxpayer, the income should be reported in the year of actual receipt. As Dowd asked the client to pay in January, the $2,000 should not be reported as income in the current year.

- The $5,000 check from another client that arrived on December 29, but Dowd told the office manager not to deposit it until January:
Again, since Dowd is on a cash basis, the income should be reported in the year of actual receipt. As the check arrived in December, regardless of when it is deposited, the $5,000 should be reported as income in the current year.

- The $3,000 bill for services performed in the current year that Dowd told the office manager not to send until January:
If Dowd did not send the bill until January, the income should not be recognized until the year of billing. Therefore, the $3,000 should not be reported as income in the current year.

In summary, Dowd should report $5,000 as income in the current year from the check that arrived in December. The $2,000 from the client who was asked to pay in January and the $3,000 bill not sent until January should not be reported as income in the current year.

The entity that may not use the cash method of accounting is A partnership with average annual gross receipts in excess of $5 million.

Explanation:
According to the tax code, partnerships with average annual gross receipts in excess of $5 million are required to use the accrual method of accounting, rather than the cash method. The other entities mentioned, such as a C corporation and an S corporation, may use the cash method of accounting as long as they meet certain criteria.

Regarding the second question about Dowd and his income transactions:
Dowd should report the income from these transactions in the current year. In the cash method of accounting, income is generally recognized when it is actually received and expenses are recognized when they are paid.

In this case, even though Dowd asked one client to pay in January and delayed depositing a check until January, the income is still considered received in the current year since he had control over the timing of the payment and the check was in his possession by December 31.

Similarly, even though Dowd told his office manager not to send a bill until January, the income should still be recognized in the current year since the services were performed in the current year.

Therefore, Dowd should report the full $10,000 ($2,000 + $5,000 + $3,000) as income in the current year.