Violations of LIFO conformity rule and relief procedures under Rev. Proc. 97-44.

• Author: Servatius, Ann P.
• Position: Last in first out, IRS Revenue Procedure 97-44

The IRS recently released Rev. Rul. 97-42, addressing whether a franchised automobile dealer that elects LIFO violated the LIFO conformity rule under Sec. 472(c) or (e)(2) by providing monthly income statements to its franchisor's credit subsidiary. The Service found that an automobile dealer that elects LIFO violates the LIFO conformity rule by providing an income statement for the tax year that fails to reflect LIFO in the computation of net income. At the same time, the IRS released Rev. Proc. 97-44, which provides relief for those taxpayers who have violated the LIFO conformity rules under the above scenario for tax years before Oct. 15, 1997.

In Rev. Rul. 97-42, the Service found that a franchised automobile dealer that elected LIFO violated the LIFO conformity rules under Sec. 472 by providing its franchisor's credit subsidiary with an income statement for the tax year that failed to reflect LIFO in the computation of net income. The IRS examined three different scenarios in which franchised automobile dealers, engaged in the purchase, sale and service of automobiles manufactured by a franchisor, financed acquisitions through the manufacturer's credit subsidiary. All three taxpayers used the accrual method of accounting, were calendar-year taxpayers and had elected LIFO beginning with the 1970 tax year. Under the terms of the franchise agreements and financing agreements, the taxpayers were required to provide monthly income statements and balance sheets to both the manufacturer and its credit subsidiary.

In the January through November 1996 income statements, all three taxpayers calculated their cost of goods sold using the specific identification method for the monthly and year-to-date totals. Two of the taxpayers made adjustments to their December 1996 financial statements to reflect the increase in the LIFO reserves for both monthly and year-to-date calculations. The third taxpayer used the specific identification method and failed to make an adjustment to reflect the use of the LIFO method.

Sec. 472(a) authorizes a taxpayer to use LIFO. However, under Sec. 472(c), a taxpayer may only elect LIFO if he does not use any other method to compute income, profit or loss for the first tax year for which the LIFO method is used for the purpose of a report or statement covering that tax year "to shareholders, partners, other proprietors, or beneficiaries, or for credit purposes." Once the LIFO method has been elected, the taxpayer must...