What Factors Can Cause Termination Of The LIFO Election?

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Your company has made the decision to elect the last-in, first-out (LIFO) method to value inventory.

Now that the decision has been made, it must be consistently upheld to avoid involuntary termination, and potentially, additional federal, state and local taxes, and income recognition of your entire LIFO reserve.

What can cause termination of LIFO?

  • Violations of the conformity requirements that state LIFO must be used for both financial statements and tax returns
  • Failure to properly elect the LIFO method
    • To properly elect the LIFO method, your company must file Form 970 with the IRS and a copy has to be retained forever.
  • Inability to value LIFO inventory at cost for the year preceding the LIFO election, the year of the election and all years after
    • Inclusion or omission of an item of cost will not trigger a disallowance or termination of LIFO
  • Failure to maintain adequate books and records to support LIFO calculations

 

What won’t cause termination of the LIFO election?

  • Errors made by the taxpayer in computing the value of LIFO inventory
  • Insufficient number of pools (i.e. groups of goods) as determined by an IRS agent
  • Improper inclusion or exclusion of an inventory item from a pool
  • Differences in inventory costing between financial statements and federal tax returns resulting from IRS audit adjustments or restatements of financial statements

 

It’s essential that you maintain all paperwork including IRS correspondence, tax returns, and elections. Involuntary termination of LIFO can be a trap for the uninformed, but it can just as easily be avoided.

If any of the above circumstances exist or there’s uncertainty with your LIFO calculations, you can take additional measures to preserve and protect the tax benefits of LIFO through the IRS accounting method change procedures.

 

Have questions about LIFO ? Let’s talk!