Prop. regs. address carryover of accounting methods under sec. 381.

• Author: Arbuthnot, Brandy L.
• Position: ACCOUNTING METHODS & PERIODS

Sec. 381 provides guidelines for the carryover of certain tax attributes, including accounting methods, in certain corporate reorganizations or liquidations. The current final regulations affect corporations that acquire the assets of other corporations in transactions described in Sec. 381(a). In order to resolve inconsistencies and confusion in the current regulations with respect to accounting and inventory methods to be used after such transactions, the IRS and Treasury issued proposed regulations in November 2007 (REG-151884-03).

Under the current regulations, after a Sec. 381(a) transaction, the accounting method or combination of methods used by the parties before the transaction will generally continue. However, if different methods are used by the parties on the transaction date, the acquiring corporation must determine which method is appropriate to follow after the transaction. The regulations refer to this method as the "principal method" (Regs. Sec. 1.381(c)(4)-1(c)).Where the combined corporations are afterward operated as a single trade or business, the current regulations apply various tests to determine the principal method, depending on whether the method under consideration is the overall accounting method, the method for a particular type of items for which the Code or regulations provide a special method, or an inventory method (Regs. Sec. 1.381(c)(4)-1(c)(2)). Under the current regulations, if there is no principal method under these tests or if the principal method is impermissible, the Service selects the appropriate method (Regs. Sec. 1.381(c)(4)-1(d)).

The IRS and Treasury have acknowledged that several areas of the current regulations are unclear or inconsistent. For example, there are inconsistencies in the guidelines for making adjustments for inventory (under Sec. 381(c)(5)) and adjustments for accounting method changes (under Sec. 381(c)(4)). In addition, there is confusion regarding when the accounting method is established for the newly combined company and the appropriate procedure for making accounting method changes required by the regulations. The Service has also admitted that the tests under the current regulations and the need for the IRS at times to select the appropriate method have led to confusion and conflicts between taxpayers and the IRS. The proposed regulations attempt to eliminate the confusion and address the inconsistencies existing under the current regulations.

In general, the accounting...