Auto Dealerships - Audit Technique Guide - Uncle Fed's Tax*Board

Other Issues
1. Enrollment Fee – The dealership may pays a nonrefundable fee to the finance company to join
the program. Pursuant to a TAM, this fee is an IRC section 263 capital expenditure and may
not be currently deducted under Section 162. The Servicing Agreement between the dealer
and the finance company meets the definition of a supplier based intangible under Section
197(b) of the Code and has a 15 year life beginning with the month in which the contract was
executed. Since the agreement does not have a fixed duration of less than 15 years, the
exception from inclusion under Section 197 of the Code does not apply.
2. Pool Capping Fee – The dealership may pay a nonrefundable fee to the finance company to
cap the pools. The same reasoning used for the enrollment fee can be applied to the poolcapping
fee. The fee covers a period of time, which is not specified in years because it is
based on the number of contracts involved. This fee would also fall under Section 197 of the
Code because it is supplier based intangible with a value resulting from future acquisition of
services pursuant to a relationship in the ordinary course of business with a supplier of
services to be used by the taxpayer. The fee would be amortized ratably over a 15-year period
beginning with the month in which the fee was paid.
3. Servicing Fee – The Servicing Agreement between the finance company and the dealer will
specify the fee charged by the finance company to the dealer to collect the receivables
(servicing fee). The servicing fee is usually a percentage of the finance contract. The
deductibility of the servicing fee is not an issue if the transfer of the finance contract is deemed
to be a sale because it is factored into the amount realized on the sale. If the transfer is
deemed to be a loan or an assignment, the servicing fee is not currently deductible when the
finance contracts are transferred to the finance company, rather it is deductible based on
economic performance. The fee should be deducted as the services are provided by the
finance company.
4. Mark to Market – Section 475 of the Code opened a small window of opportunity for auto
dealers to elect Section 475 to mark receivables to market value. For Section 475 to apply,
the dealer must have held (owned) the receivable at THE END OF THE APPLICABLE TAX
YEAR. If the transfer of the installment contract to the finance company were determined to
be a sale, Section 475 would not apply since the dealer no longer owns the receivable. The
IRS Restructuring and Reform Act of 1998 amends Section 475. The mark-to-market
accounting rules were not intended to be used by dealers in non-financial goods and services
to obtain a loss deduction that otherwise would not be available. Mark-to-market no longer
can be used for a receivable that is produced from the sale of non-financial goods or services
by a taxpayer whose principal activity is the selling or providing non-financial goods and
services.
5. Change in Accounting Method – Depending on how the dealer has reported the transactions,
audit adjustments may require a change in method of accounting. If so, a Section 481(a)
adjustment will be made at the beginning of the year of change, usually the first open year
under examination. The current year adjustment will be made pursuant to Section 446. The
facts and circumstances of each situation must be considered to determine if a change in
method has occurred.
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