La Crosse Footwear Further Limits Benefit of Bargain Inventory Purchases.

• Author: Devlin, Frank

The Federal Circuit has reversed the Court of Federal Claims in interpreting the proper accounting method for the bargain purchase of inventory using LIFO (La Crosse Footwear, Inc., 191 F3d 1372 (1999), rev'g Ct. Fed. Cl. (1998)). The Court of Federal Claims had held that the base-year cost of inventory acquired in a bargain purchase was its fair market value (FMV), thereby allowing a stepped-up basis without a corresponding reduction in the basis of other assets acquired in a bulk purchase. The decision of the lower court did not make sense, in that the total basis allocated in the bulk purchase of assets exceeded the purchase price of those assets, thus avoiding the recognition of taxable income that would have related to the bargain-purchased inventory on its eventual sale.

Although the Federal Circuit followed the Court of Federal Claims in holding that the bargain-purchased inventory must be accounted for separately from subsequently purchased similar goods, it reversed the lower court on the question of basis by deciding that the base-year cost of the bargain-purchased goods was the acquisition cost, not the FMV. The Federal Circuit reasoned that the regulations require that reconstructed cost be established to the IRS's satisfaction, and that the LIFO method cannot be used to postpone the realization of gains associated with the bargain purchase of inventory, pursuant to Kohler Co., 124 F3d 1451 (Fed. Cir. 1997).

This decision was not unexpected. Unfortunately, it eliminates the only judicial support for using the LIFO method to defer gain associated with the bargain purchase of inventory. The lower court's decision had provided substantial authority in cases when the application of Hamilton Industries, 97 TC 120 (1991), and Kohler may have required the recognition of taxable income or proper disclosure to avoid penalties.

Where does this decision leave a taxpayer that acquires...