Many businesses have special tax concerns that are unique to their industry.  The general rules in the Tax Code can have unintended consequences.  To respond to these problems, the IRS created the Industry Issue Resolution (IIR) program.

The IIR program recently examined a tax problem that heavy equipment dealers were experiencing and recommended some changes.  As a result, the IRS has enacted a safe harbor for heavy equipment dealers that use the replacement cost method when calculating the cost of their inventory. 

Industry problem

Currently, taxpayers that use the last-in, first-out (LIFO) method must use the actual cost when determining the cost of the inventory.  Many heavy equipment dealers, however, use the replacement cost as a standard practice when valuing the cost of inventory.  Heavy equipment dealers told the IRS that they incur a substantial burden when switching between the actual cost method and the replacement cost method.

Heavy equipment dealers brought the problem to the IIR program.  The IIR program studied it and recommended that the IRS create a safe harbor for heavy equipment dealers. 

New safe harbor

The safe harbor is similar to the one the IRS provided to the auto dealer industry a few years ago.  The replacement cost method involves the dealer pricing the inventory costs using a standard price list.  The list must be widely recognized and accepted by the heavy equipment industry and be used for business purposes.  The taxpayer must also satisfy book conformity and recordkeeping requirements.  If the price list is unavailable, the taxpayer should use the price at which the equipment was last offered for purchase. 

The safe harbor is for heavy equipment dealers engaged in the trade of selling heavy equipment parts at retail and who are authorized under agreement with one or more equipment manufacturers to sell the new heavy equipment.

Audit protection

The IRS is offering audit protection for taxpayers who already use the replacement cost method for valuing inventory.  This means that the IRS will not raise the method used as an issue for a tax year that ends before April 30, 2005, and if it is currently an issue, the IRS will no longer pursue it. 

Taxpayers wishing to switch to the replacement cost method should file Form 3115, Application for Change of Accounting Method, for tax years ending on or after April 30, 2005.  Taxpayers must also follow the automatic change in accounting method provisions that are outlined in Rev. Proc. 2002-9.  As a warning, the IRS reserves the right to modify or revoke the safe harbor for future tax years if circumstances change. 

If you have an industry issue that you think might be resolved in the IIR program, contact your nearest Wipfli office.  It may be ripe for more guidance or it may already be in the IIR program pipeline.