AICPA Seeks Quick Relief on Interruption of LIFO Inventories

August 17, 2021

Mr. John Moriarty
Associate Chief Counsel
Income Tax & Accounting
Internal Revenue Service
1111 Constitution Avenue, NW
Washington, DC 20224

Re: Request for Safe Harbor Method and Expedited Relief under Section 473

Dear Mr. Moriarty:

The American Institute of CPAs (AICPA) appreciates the continued efforts of the Department of the Treasury (“Treasury”) and the Internal Revenue Service (IRS) to issue timely guidance related to the Coronavirus Aid, Relief and Economic Security Act (CARES Act).¹ The AICPA previously submitted comments requesting relief under section 473¹ for taxpayers. In our previous letter, we recommended that Treasury and the IRS determine that the foreign trade interruptions resulting from government actions to contain the spread of the 2019 Coronavirus Disease pandemic (“Coronavirus” or “COVID-19”) is considered a “qualified inventory interruption”² and issue the required notice (the “Notice”)³ granting section 473 relief to taxpayers that experienced a qualified liquidation of Last-In, First-Out (LIFO) inventory.

Overview

Our previous comment letter recommended a safe harbor method that alleviates the burden of paying additional taxes on the related income and, in general, eliminates the need to file amended tax returns to obtain section 473 relief. This letter provides details (including examples, below) of: (1) the section 473 safe harbor method, and (2) the need for expedited relief to elect the section 473 safe harbor method.

Recommendation

The AICPA recommends a section 473 safe harbor method providing that, if a taxpayer has experienced a qualified liquidation⁴ for a liquidation year,⁵ the taxpayer would disregard the liquidation for the liquidation year and would retain the LIFO layers related to the opening inventory of the liquidation year.

Analysis

Under our recommended safe harbor method, the taxpayer does not recognize income attributable to the liquidation of these LIFO layers if the taxpayer completely replaces the inventory by the end of the replacement period.⁶ This safe harbor method alleviates the burden of paying additional taxes on the related income and, in general, eliminates the need to file amended tax returns to obtain section 473 relief.

The safe harbor method will allow a taxpayer to use a substitute current-year cost for the liquidation year equal to the actual current-year cost (e.g., First-In, First-Out (FIFO) cost) of the prior year multiplied by the current-year index. The taxpayer then computes a substitute base cost equal to the substitute current-year cost divided by the current-year cumulative index. This substitute base cost will equal the prior-year base cost. As a result, the LIFO layers that existed prior to the liquidation year will not be liquidated, and the taxpayer will not recognize taxable income related to the liquidation that otherwise would occur in the liquidation year. However, the taxpayer would recognize LIFO income related to deflation, or a LIFO expense related to inflation, based on the current-year index for the liquidation year. The taxpayer will repeat this process for each year of the replacement period until the liquidated inventory is completely replaced, recognizing LIFO income related to deflation, or a LIFO expense related to inflation, based on the current-year index for each year.

If the taxpayer does not fully replace the liquidated inventory by the end of the replacement period, the taxpayer may elect to either: (1) file an amended return for the liquidation year to recognize the taxable income related to the liquidated inventory that was not replaced and pay the related income tax and interest, or (2) in lieu of filing an amended return, compute the taxable income related to the liquidated inventory that was not replaced and pay a specified amount that approximates the time value of money benefit⁷ (similar to the approach described in section 6.02(4) of Rev. Proc. 2002-18) on or before the due date (including any extension) of the federal income tax return for the last year of the replacement period.

Recommendations

The AICPA urges the IRS to expedite publication of guidance providing the section 473 safe harbor method proposed above so that affected taxpayers who have not already filed their federal income tax return for the liquidation year can include the section 473 safe harbor election statement with their timely filed (including any extension) original federal income tax return.

Further, the AICPA recommends providing taxpayers with the flexibility to elect and implement the section 473 safe harbor method, particularly for taxpayers that have already filed their federal income tax return for the liquidation year. Filing an amended return for the liquidation year within 90 days of the date this proposed guidance is published in the Federal Register, or filing a Form 3115, Application for Change in Accounting Method, under the automatic consent procedures for any taxable year during the replacement period would permit taxpayers, including partnerships, a late election mechanism to use the proposed section 473 safe harbor method. This is similar to the relief provided in Rev. Proc. 2020-25 and Rev. Proc. 2020-50 with respect to late bonus depreciation elections.

Analysis

Expedited relief allows taxpayers to avoid the burden of paying additional taxes related to the income resulting from the qualified liquidation for the liquidation year. Transparency and visibility of the tax laws is a guiding principle for sound tax administration. Granting expedited relief under section 473 and allowing taxpayers to use the proposed safe harbor method to mitigate the substantial additional taxes due to circumstances beyond their control was the purpose of enacting section 473. Not allowing taxpayers to use relief that should be available reduces that visibility and transparency of the tax laws, leading to unequal and in some cases, unfair, application of those now opaque laws.

A taxpayer that makes a late election to use the section 473 safe harbor method by filing a Form 3115 under the automatic consent procedures would implement the change with a section 481(a) adjustment. The section 481(a) adjustment would equal the difference between: (1) the amount of LIFO income recognized in the federal income tax return for the liquidation year due to the qualified liquidation; and (2) the amount of LIFO expense or income (due to inflation or deflation) that would have been recognized if the taxpayer had applied the section 473 safe harbor method for the liquidation year.⁸ In addition, the taxpayer would restore the liquidated layers as if it had applied the section 473 safe harbor method for the liquidation year.

* * * * *

The AICPA is the world's largest member association representing the accounting profession, with more than 428,000 members in the United States and worldwide, and a history of serving the public interest since 1887. Our members advise clients on federal, state, and international tax matters and prepare income and other tax returns for millions of Americans. Our members provide services to individuals, not-for-profit organizations, small and medium-sized businesses, as well as America's largest businesses.

We appreciate your consideration of our recommendations and welcome the opportunity to further discuss our comments. If you have any questions, please contact David Strong, Chair, AICPA Tax Methods and Periods Technical Resource Panel, at (616) 752-4251, or david.strong@crowe.com; Alexander Scott, Senior Manager — AICPA Tax Policy & Advocacy, at (202) 434-9204, or alexander.scott@aicpa-cima.com; or me at (601) 326-7119 or JanLewis@HaddoxReid.com.

Sincerely,

Jan Lewis, CPA
Chair, AICPA Tax Executive Committee
American Institute of CPAs
Washington, DC

cc:
The Honorable Charles P. Rettig, Commissioner, Internal Revenue Service
Mr. Mark Mazur, Acting Assistant Secretary for Tax Policy, Department of the Treasury
Mr. William Paul, Acting Chief Counsel, Internal Revenue Service
Mr. Krishna P. Vallabhaneni, Tax Legislative Counsel, Department of the Treasury
Ms. Wendy Friese, Tax Policy Advisor, Office of Tax Legislative Counsel, Department of the Treasury
Mr. Timothy Powell, Tax Policy Advisor, Office of Tax Legislative Counsel, Department of the Treasury
Ms. Kate Abdoo, Special Counsel, Income Tax & Accounting, Internal Revenue Service