SourceCorp: Cost Segregation Studies, R&D Tax Credits, LIFO Accounting Since 1983.

Q: What is IPIC and what does it stand for?
A: The Inventory Price Index Computation method is an elective method of determining the LIFO value of a taxpayer’s inventory. Unlike traditional LIFO methodologies, inflation under the IPIC method is based on externally published indexes, consumer or producer price indexes (CPI or PPI). The CPI and PPI are published by the United States Bureau of Labor Statistics (BLS).

Q: What is the difference between Rolling Average Cost and True Average Cost?
A: Average Cost - Under the average acquisitions cost method, the current-year cost of items is based on the average of all the costs incurred by the taxpayer in acquiring or producing the same types of items during the taxable year. The average cost must be based on a full twelve months of costs and only costs incurred during the current taxable year may be used according to the Service.

Rolling Average Cost - Under this method, a taxpayer computes its inventories by adding the inventoriable costs of the current period (this may be a day, a month, or perpetually) to the balance of inventoriable costs brought forward from the previous period. The total aggregate units are divided into the total aggregate inventoriable costs and an average cost per unit is determined.

The potential issue with the rolling average method is that may include costs from prior periods. If inventory turns are high enough, this potential problem is mitigated and the method starts to resemble the most recent purchases method.

Q: What if inventory detail does not reconcile to the total current year cost?
A: It is not uncommon for taxpayers to make adjustments to inventory costs that are not reflected in the inventory detail listing. To the extent possible, taxpayers should apply any adjustments made to year end costs to the inventory detail and account for those adjustments at the item level; however, practically speaking this is not always feasible. When clients are unable to account for adjustment to inventory at the detail level, the current year inflation index is calculated based on the inventory detail that is available; that inflation index is then applied to the total current year cost, which includes any adjustments, in order to calculate the LIFO Reserve. The value of the difference between the inventory detail and current year cost essentially assumes the same inflation factor as is calculated for the overall pool.

Q: What if detail is not available for all inventory (i.e. no listing of in-transit inventory at year end)?
A: In some cases, taxpayers are unable to obtain a detailed listing of inventory on hand at year end for certain portions of inventory, such as in-transit inventory that is on the water or in trucks. Depending on the type of inventory that the taxpayer carries, a summary of the in-transit contents and the dollar value may be sufficient for LIFO purposes. Another possible option for treating such inventory is making an allocation of similar types of inventory across the dollar value for the in-transit inventory. If another solution cannot be reached, the inventory will be excluded from the inflation index calculation and included in the total current year cost value utilized to calculate the LIFO reserve (i.e. treated as an adjustment to the current year cost). When determining the appropriate approach, taxpayers must consider the materiality of the dollar value for the inventory that is not available at the detail level, in relation to the total current year cost.

Q: How are pools determined?
A: For purposes of an IPIC LIFO calculation, a pool is a group of inventory items that are common to each other by item, line, type or business structure. There are several different principles in determining how a taxpayer is to pool its inventory. The appropriateness of a taxpayer’s pools depends on the particular business and the LIFO method used. Pooling is important to the LIFO calculation because the inflation index and the LIFO reserve are determined on a pool-by-pool basis to arrive at the cumulative LIFO reserve. A pooling method selected by a taxpayer must be followed consistently in all subsequent years unless granted permission to change to a different pooling method. The following pooling methods are available for taxpayers that adopt the IPIC method. Reg. § 1.472-8(d):

IPIC Pooling Method - IPIC Pooling is a method of pooling a taxpayer’s inventory based on either 2-digit commodity codes (i.e., major commodity groups) in Table 6 of the “PPI Detailed Report” or the general expenditure categories (i.e., major groups) in Table 3 of the “CPI Detailed Report.” The IPIC pools are determined after all inventories have been categorized into PPI or CPI categories.
Natural Business Unit Method - The Natural Business Unit method is available for manufacturers and processors. In the case of a manufacturer or processor, a natural business unit ordinarily consists of the entire productive activity of the enterprise within one product line or within two or more related product lines including (to the extent engaged in by the enterprise) the obtaining of materials, the processing of materials, and the selling of manufactured or processed goods. Reg. § 1.472-8(b)(2)(i)
Multiple Pooling Method - A taxpayer may elect to establish multiple pools for inventory items that are not within a natural business unit as to which the taxpayer has adopted the natural business unit method of pooling. Each such pool shall ordinarily consist of a group of inventory items that are substantially similar. Requirements of establishing LIFO pools under this method apply to raw materials, work- in-process and finished goods inventory.

Q: What is the difference between an Appropriate Month and a Representative Month?
A: The decision to utilize an Appropriate Month or a Representative Month is one made in the year a taxpayer elects the IPIC Method; once this election is made, the taxpayer must be consistent with that election on an annual basis.

When a taxpayer elects a Representative Month, the month that will be used must be specified on the IPIC election form in the election year; that same month must be used from year to year. To change or revoke its election of its representative month, the taxpayer must obtain the Commissioner's consent.
When a taxpayer elects an Appropriate Month, a particular month is not specified on the IPIC election Form, and thus the taxpayer potentially has the option to analyze indexes from multiple months on an annual basis based on certain criteria.

Q: What is the difference between Preliminary and Final Producer Price Indexes?
A: The BLS price indexes are the cumulative indexes published in the selected BLS table for the appropriate month. BLS indexes are published monthly and are considered preliminary for four months at which time final, revised indexes are published. A taxpayer may elect to use either preliminary or final BLS price indexes for the appropriate month provided that the selected BLS price indexes are used consistently. However, a taxpayer that elects to use final BLS price indexes must use preliminary BLS price indexes for any taxable year for which the taxpayer files its original federal income tax return before the BLS publishes final BLS price indexes for the appropriate month. Reg. § 1.472-8(e)(3)(iii)(D)(2) The election of final versus preliminary indexes can be made at the pool level. For first year clients, calculations are performed using both price indexes to give the taxpayer the option to choose between the two.

Q: Are taxpayers required to categorize inventory at the item level? Or, can categorization be performed based on higher level groupings?
A: The Regulations state that each individual inventory item must be categorized to the most detailed BLS category of the selected BLS table that contains that item. If a taxpayer has grouping or summary information available within its inventory, it is possible that this level of information may be acceptable for purposes of assigning the appropriate BLS categories to inventory. Items for consideration when making this determination are 1) is the description for the group or summary descriptive enough to assign the most detailed BLS category and 2) is the group or summary description truly reflective of every single detailed inventory item within that group? If the answer to each of these questions is ‘yes’, then it would be possible to assign the BLS categories to the taxpayers inventory at the group or summary level.

Q: What are the IRS filing requirements for a taxpayer that is not on LIFO?
A: A Taxpayer electing LIFO for the first time using the IPIC method must file a Form 970, which is due with a timely filed tax return. For example, a 12/31 year end taxpayer must file the Form 970 with the tax return filed by 3/15, or by 9/15 if the taxpayer has filed for an extension.

Q: What are the IRS filing requirements for a taxpayer that is currently on LIFO and is changing to the IPIC method?
A: A Taxpayer changing from one LIFO method to the IPIC method must file a Form 3115 and a Form 970 with the timely filed tax return; this change is granted automatic consent.

Q: Is the IPIC method an acceptable LIFO methodology for GAAP?
A: When deciding on a appropriate LIFO methodology for GAAP purposes, a taxpayers auditor must be consulted - the auditor will have the final say in approving an acceptable GAAP method. Depending on the financial auditor’s position, IPIC may not be allowed for GAAP financial statements. In this situation, an additional GAAP calculation would be required utilizing an internally developed inflation index method.

Common Tax Items

Q: What is the conformity requirement and can a taxpayer use different book and tax LIFO methods?
A: Taxpayers electing LIFO for tax purposes must elect LIFO for book purposes. This is called the conformity requirement. The LIFO method used for book purposes need not be the same as the LIFO method used for tax purposes. It is very common for taxpayers to elect the IPIC LIFO method for tax purposes and an internal LIFO method for book purposes.

Q: Does a taxpayer’s business structure impact its LIFO eligibility?
A: Generally, no. C-corps, S-corps, Partnerships (LLP’s and LLC’s treated as partnerships) may all elect to use LIFO if they have inventory. Disregarded entities such as Q-subs (S-corps entirely owned by other S-corps) and single-member LLC’s (LLC’s with only one partner) are also eligible to elect LIFO through their regarded parent entity.

Q: Can taxpayers elect LIFO for foreign inventory?
A: Generally, foreign inventory controlled or held by a US taxpayer (on its books and tax return) should be considered for LIFO just like any other domestic inventory.

Q: Can a taxpayer value inventory at the lower of cost or market (LCM)?
A: No, LIFO inventory must be valued at actual cost.

Q: How are market adjustments, subnormal goods, and slow-moving reserves handled when making a LIFO election?
A: Since taxpayers must value inventory at actual cost, any market adjustment including write downs/reserve for subnormal or slow moving items must be restored. Taxpayers are allowed to restore the adjustments into income over three years, starting with the election year.

Q: Is LIFO an AMT/ACE adjustment and how is it computed?
A: Yes for C-corps. The LIFO reserve is considered an adjusted corporate earnings (ACE) adjustment which is part of the AMT calculation. To the extent there is an ACE adjustment in getting to AMTI then LIFO factors into the AMT calculation. No for S-corps or partnerships. AMT is calculated at the individual level and there is no calculation/adjustment for ACE or any specific line item on the form that adjusts for LIFO inventory.