IRS Form 8697 – In the complex world of tax accounting for construction and long-term projects, IRS Form 8697 plays a crucial role. This form is essential for taxpayers involved in long-term contracts, helping them compute interest under the look-back method. Whether you’re a contractor, accountant, or business owner dealing with percentage-of-completion accounting, understanding Form 8697 can save you from unexpected tax liabilities or even secure refunds. In this comprehensive guide, we’ll break down what Form 8697 is, who needs to file it, how to compute the interest, and more—using the latest information as of 2026.
What Is IRS Form 8697 and Its Purpose?
IRS Form 8697, titled “Interest Computation Under the Look-Back Method for Completed Long-Term Contracts,” is used to calculate interest that may be due to the IRS or refunded to the taxpayer. This applies to certain long-term contracts accounted for under the percentage-of-completion method or the percentage-of-completion-capitalized cost method, as outlined in section 460(b)(2) of the Internal Revenue Code.
The look-back method essentially “looks back” at prior tax years after a contract is completed. It recalculates taxable income based on the actual contract price and costs, comparing them to the estimates used in previous filings. If the estimates led to underreported income (deferring taxes), you’ll owe interest. Conversely, if income was overreported (accelerating taxes), you may receive a refund of interest.
This method ensures fairness in tax deferral, particularly for contracts spanning multiple years. It’s mandatory for contracts entered into after February 28, 1986, and must be applied in the year of completion or any year with post-completion adjustments to price or costs.
Key definitions to know:
- Long-Term Contracts: These are contracts (excluding home construction or short-term ones) that typically span more than two years and require the percentage-of-completion method under section 460(e).
- Percentage-of-Completion Method: Income is allocated based on progress, such as costs incurred versus total estimated costs, per Treasury Regulations section 1.460-4.
- Percentage-of-Completion-Capitalized Cost Method: Similar to the above, but with capitalized costs allocated over the contract term.
The form was last revised in December 2025, with no major recent developments reported as of January 2026.
Who Needs to File IRS Form 8697?
Not every taxpayer with contracts must file Form 8697. It’s required for:
- Taxpayers completing long-term contracts after February 28, 1986, using the specified accounting methods.
- Those making adjustments to contract price or costs in years after completion.
- Pass-through entities (like partnerships or S corporations) that qualify, applying the look-back at the entity level if they meet criteria (e.g., not closely held and at least 95% U.S. source income).
- Owners of pass-through entities if the entity doesn’t file.
Exceptions include:
- Home construction contracts.
- Short-term contracts (completed within two years, with average annual gross receipts of $10M-$25M, adjusted for inflation).
- Small contracts (expected gross price of $1M or less, or 1% of average receipts).
- De minimis cases where cumulative taxable income is within 10% of the look-back amount (via election).
For construction contractors, the IRS emphasizes that Form 8697 addresses overpayments or underpayments from prior contracts in progress. If you’re a C corporation, individual, or entity filing Forms 1040, 1065, 1120, or 1120-S, this form may apply.
Recent updates in 2026 note that the estimated burden for trusts and estates filing Form 8697 has been removed from certain OMB control numbers, simplifying reporting for those entities.
How to Compute Interest on Form 8697: Step-by-Step Guide?
Computing interest on Form 8697 involves two main parts: the Regular Method (Part I) and the Simplified Marginal Impact Method (Part II). Interest is compounded daily using rates under section 6621, accruing from the due date of the prior year’s return to the current filing date.
Regular Method (Part I)
- For each prior year, calculate the net adjustment to income (positive for increases, negative for decreases).
- Adjust taxable income and recompute tax liability, considering non-refundable credits and Alternative Minimum Tax (AMT).
- Determine the tax change.
- Apply compounded interest using IRS-provided tables (e.g., Table 1 for non-corporates, Tables 2-3 for corporates).
- Total interest due or refundable.
Simplified Marginal Impact Method (Part II)
This is for pass-through entities or by election:
- Compute income adjustment.
- Apply the highest statutory tax rate (37% for individuals post-2017, 21% for corporations post-2017).
- Factor in AMT (0% for corporations post-2017).
- Calculate net tax impact and apply interest.
Post-completion adjustments are discounted using the federal midterm rate under section 1274(d), unless elected otherwise. Elections like de minimis, delayed reapplication (for changes over $1M or 10% of contract price, or after 5 years), and the 10% method (postponing recognition until 10% costs incurred) can simplify computations.
For Net Operating Losses (NOLs), use adjusted periods; note that post-2017, there’s no 2-year carryback except for farmers and non-life insurers.
An example from the instructions: For a C corporation completing contracts in 2017, interest for 2015-2016 uses rates like 3% on the first $10K and 1.5% on excess, compounded over specific periods.
Filing Instructions for IRS Form 8697
- When to File: Attach to your tax return if owing interest (e.g., report on Form 1040, line 15). For refunds, file separately by the tax return due date (including extensions) to the appropriate IRS center (Philadelphia for individuals, Cincinnati for others).
- How to File: Sign if claiming a refund. For errors or amendments, file a corrected Form 8697; amend your return if the interest direction changes.
- Special Cases: Mid-contract ownership changes may trigger constructive completion or step-in-shoes rules.
Look-back interest isn’t subject to estimated tax penalties. Failure to file could lead to penalties under sections 6001 and 6109, or forfeiture of refunds.
You can download the latest IRS Form 8697 PDF directly from the official IRS website: https://www.irs.gov/pub/irs-pdf/f8697.pdf. For instructions, visit https://www.irs.gov/pub/irs-pdf/i8697.pdf.
Common Challenges and Tips for Compliance
Handling Form 8697 can be tricky due to the need for accurate historical data and complex calculations. Common issues include overlooking post-completion adjustments or misapplying discount rates. Consult a tax professional, especially for large contracts or pass-through entities.
Related forms include Form 2210 (Underpayment of Estimated Tax by Individuals) and Form 2220 (for Corporations), which may interact with look-back computations.
In 2026, with no major IRS updates to the form, focus on timely filing to avoid penalties.
Conclusion
IRS Form 8697 ensures equitable tax treatment for long-term contracts by addressing estimation discrepancies through the look-back method. By understanding its requirements and computations, you can manage your tax obligations effectively. Always use official IRS resources for the most accurate guidance, and consider professional advice for complex scenarios. For the form itself, download it here: https://www.irs.gov/pub/irs-pdf/f8697.pdf. Stay compliant and informed to navigate tax season smoothly.