With 2021 just ended, many dealers are rubbing their hands in delight over their supersized operating profits while scratching their heads over what to do about last in, first out (LIFO) recapture as vehicles vanishing from their lots as quickly as they arrive are carrying out large chunks of LIFO reserves in their back seats.
With fewer vehicles in inventory, collapsing LIFO reserves pose an even greater tax dilemma this year. However, for many dealers, there could be a happy ending, a win-win result, and LIFO could become one of their best friends. But this hasn’t happened, because the U.S. Treasury Department has failed to respond in a meaningful way to letters from the National Automobile Dealers Association and others asking for relief under Section 473.
Here’s why: Dealerships facing significant LIFO reserve recapture have only four alternatives.
1. Terminate their LIFO elections. File Form 3115 to notify the IRS that LIFO is over and repay all of the LIFO reserve at the end of last year by taking it into income over four years, 25 percent per year, starting with the 2021 income tax return.
2. Stay on LIFO using the alternative LIFO method for new vehicles and take the large LIFO reserve recapture into income completely in their 2021 income tax returns.
3. Continue using LIFO for new vehicles, but to some extent, offset the impact of the LIFO reserve recapture on the new vehicles by electing to use a similar method for used vehicles. This method analyzes each vehicle in ending inventory, based on pricing information taken from an official used-car guide to compute the inflation index.
4. Change from the alternative LIFO method to the inventory price index computation, or IPIC, LIFO method, and at the same time add used vehicles to the new-vehicle IPIC LIFO pool. Maybe even throw in parts and tire inventories. I encourage dealers to explore this alternative before committing to any of the above options or waiting for relief from the Treasury.
The inflation indexes in the Consumer Price Index Report can be used as part of this method, and for 2021, they are 11.8 percent for new vehicles and 37.3 percent for used vehicles. Properly computed inflation indexes under the alternative LIFO methods for separate pools of new and used vehicles are considerably lower than these CPI results.