The blurred line between production and handling costs.

• Author: Fairbanks, Greg A.

On September 15, 2009, the IRS announced in a field directive (LMSB-04-0909-035) that it was temporarily suspending the examination of Sec. 263A (UNICAP) issues involving automobile dealerships. The suspension began on September 15, 2009, and will end on December 31, 2010. According to the directive, the IRS suspended the examination in order to allow affected taxpayers the opportunity to comply with legal analysis contained in Technical Advice Memorandum (TAM) 200736026. While the IRS acknowledged that a TAM is not authoritative guidance, it added that the legal reasoning in the TAM may be instructive in connection with automobile dealership examinations.

The TAM addressed a number of issues, including whether the installation of parts on customer-owned vehicles, and on taxpayer-owned (i.e., dealership-owned) vehicles, would constitute "production" for purposes of the UNICAP regulations. The TAM concluded that the installation of parts on the taxpayer-owned vehicles constitutes production, while the installation of parts on customer-owned vehicles does not. The existence of production activities at a retail facility is relevant because it could have a significant effect on a taxpayer's UNICAP calculation--including whether the taxpayer has a retail sales facility, whether the taxpayer can deduct certain storage and handling costs, and whether the taxpayer can use the simplified resale method.

On April 9, 2009, prior to the publication of the directive, the IRS National Office published Notice 2009-25. The notice requests comments on numerous UNICAP issues related to retailers. The IRS received at least two comment letters in response to the notice. One comment letter, submitted by the National Automobile Dealers Association (NADA), called into question the validity of the reasoning in the TAM and stated that a better definition of "production" was needed. The IRS has placed this issue on its 2009-2010 priority guidance business plan.

In the directive, the LMSB encourages taxpayers to take steps (i.e., file Form 3115, Application for Change in Accounting Method) to comply with the reasoning in the TAM. Presumably, in order to comply with the directive, thousands of affected automobile dealerships will file accounting method change requests with the IRS National Office, notwithstanding that the TAM is nonprecedential and the IRS National Office and Treasury have a pending business plan item that might address some of the technical issues...