Many automobile dealers represent a number of franchises—GM, Ford, Toyota, Honda, etc. In addition, many of those dealers use the “Last-in First-out” (“LIFO”) method of accounting for their car inventory. For dealers who have had one of their franchises terminated, Chief Counsel Advice 200935024 is yet another in a recent string of taxpayer friendly pronouncements by the IRS that may lend them a helping hand.
In general, if a taxpayer changes its method of accounting and the change results in additional income being recognized by the taxpayer, Section 481 permits the taxpayer to include that income ratably over a 4 year period. However, if the taxpayer goes out of business, or ceases a particular trade or business, then the remaining balance of the Section 481 adjustment is accelerated and included in income in the year the trade or business stops. See, Revenue Procedure 2008-52, Section 5.03(3).
However, in CCA 200935023, the IRS Chief Counsel concluded that the favorable 4 year income inclusion rules under Section 481 would apply even after a franchise has been terminated. In that CCA, an automobile dealer had five franchises, and was notified in 2009 that it would be losing one of those five. The automobile dealer had been using the dollar-value LIFO pool method of accounting for the inventory for each of its five different franchises (keeping a separate pool for each franchise); once it learned that one of the franchises had been terminated, it elected to change its method of accounting for inventory for the terminated franchise to the specific identification method of accounting effective for the year ending December 31, 2009. In addition, it sold all of its inventory for the terminated franchise so that at December 31, 2009 it would not have any ending inventory in stock. The IRS examiner who was auditing that particular automobile dealer initially took the position that the dealer’s trade or business for that franchise had terminated, and thus the 4 year deferral under Section 481 was not available. However, after further review, the Chief Counsel advised the automobile dealer that it did not have to accelerate the Section 481 adjustment where there is no ending inventory for the year in which the change was made.
Practice tip: If you have multiple franchises, and lose one or two, but keep the rest, then you should be able to change to the specific identification method of accounting for the terminated franchises, and be eligible for the Section 481 4 year spread. However, it is critical that you dispose of all of the inventory of the terminated franchise before year-end; having even one car left in stock could cause you to lose the benefits of the 4 year spread.
Practice tip: If you only have one franchise, it is terminated, and you decide to go out of business, then the Section 481 4 year spread would not be available. However, if you obtain another automobile franchise, and remain in business, then you should still qualify for the Section 481 4 year spread. This CCA favors automobile dealers who operate multiple franchises through one company, rather than setting up separate companies for each franchise.
Practice tip: Form 3115 is used to file for a change of accounting method; in the case of a voluntary change of method of accounting, the form must be filed with the tax return for the year for which the change is to be made. Accordingly, changes for the 2009 tax year can be made by filing the Form 3115 on or before the due date of a timely-filed tax return (generally March 15, 2010 unless extended to September 15, 2010). Automobile dealers who have had a franchise terminated have some time to review their options and do the computations to see if a change in their method of accounting for the terminated franchise inventory is economically attractive and otherwise appropriate.
Practice tip: If the automobile dealer in question had used a single dollar-value LIFO pool for all five of its franchises, it would not have been able to change its method of accounting only for the terminated franchise inventory. However, it could have changed from a single dollar-value LIFO pool to a combination of specific identification for the inventory for the terminated franchise and separate dollarvalue pools for each of the remaining franchises, while still qualifying for the Section 481 4 year spread.