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

A Short History of LIFO Applications: Auto Dealership LIFO and the IRS
It appears LIFO was introduced to automobile dealers in the early 1970s. When there was a
sharp increase in prices, they made their accountants aware of their wishes to elect the method for
their particular dealerships.
The complexities of the application of dollar value LIFO concepts to the inventories of auto
dealerships proved to be difficult for the revenue agent to work for both technical and practical
reasons. Few agents knew how to deal with the subject. The few that did had to cope with
extremes. Some were besieged with volumes of records making computation difficult for the
single agent. Some taxpayers provide inadequate or no records and challenge the agent to find
fault with their computations. Some auto dealers created LIFO reserves far in excess of what was
appropriate for the method elected on their Form 970, "Application To Use LIFO Method."
In the mid 1980s, a group of revenue agents from the Los Angeles District established a
methodology to compute the LIFO indices and reserves that would be effective as to accuracy
and time applied would be acceptable to both the auto dealership industry and the Service. Their
work was the genesis of a methodology that was put into practice by their successors culminating
with Rev. Proc. 97-36. This Revenue procedure left the industry and the Service with a
somewhat workable system to compute auto dealership LIFO.
Upon completion of their examination, these agents produced the draft Automobile Dealership
Audit Techniques Guide (ATG), dated June 1990.
The successor to these agents was a formalized Auto Dealership Audit Techniques Group. Their
goals included a desire to pick up where the prior group had left off promoting uniform
conformity within the auto dealership accounting fraternity in relation to the manner in which
dollar value LIFO was computed. It was felt this uniformity would be established if the method of
index computation could be standardized. This would leave agents and auto dealers only
discussing the inflation to apply to a specific vehicle.
Problems concerning the manner in which the auto dealership industry was computing dollar value
LIFO revolved around two concepts, averaging within submodels and assigning inflation to new
vehicles. By following these practices, some LIFO calculations distorted income.
The method used by many dealerships distorted the LIFO calculations by defining the item as the
"make," model or sub-model. As quality increased, less expensive vehicles were replaced with
more expensive vehicle. To distort income by averaging within submodels, a dealer would group
vehicles with higher prices with vehicles of lower prices. Though these groupings entailed
working within the same model group, this comparison of dissimilar submodels produces an index
higher than would be attainable if the dealer compared the higher priced submodel vehicles to
other like kind higher priced submodel vehicles and lower priced submodel vehicles to other like
kind lower priced submodel vehicles. This is the true intent of the regulations.
The following example is offered to illustrate the preceding paragraph:
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