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The IRS requires LIFO to be used for both tax and financial statement purposes in the primary income statement. However, the LIFO costing method used for financial reporting purposes may be different from the method used for tax purposes (e.g., double-extension for book and link-chain for tax) and costs required to be included under the uniform capitalization rules for tax purposes may be different from costs that are inventoriable for financial reporting purposes (see IV 3.4.1 for additional discussion). In addition, under IRS regulations, the use of non-LIFO valuations in the following do not violate the conformity requirement:
  • Disclosures of supplemental information in financial statement notes or management’s discussion and analysis of operations
  • Reports or credit statements generally covering less than the taxable year 
  • Internal management reports
  • Using lower of LIFO cost or market in financial reports (see IV 3.8)
  • In situations when accounting for business combinations under GAAP differs from the required LIFO tax accounting, resulting in temporary differences under ASC 740

3.4.1 Book/tax LIFO accounting differences

Although the IRS conformity regulations require companies to use LIFO for both tax and financial statement purposes, the specific application of LIFO may differ without violating the conformity requirement. Differences between the book and tax application of LIFO generally result in temporary differences that should be accounted for in accordance with ASC 740.
While different book/tax LIFO methods may be used without violating the LIFO conformity requirement, the difference may cause the IRS to challenge the propriety of the tax method. For example, the use of different prices for new items for book and tax purposes may cause the IRS to challenge the tax pricing method.
The following are some book/tax LIFO accounting differences that the IRS has specifically identified as allowable under the conformity regulations:
  • Inventoriable costs — For tax purposes, the uniform capitalization rules (Internal Revenue Code section 263A) may require costs to be inventoried for tax purposes that are required to be treated as period costs under GAAP (see Figure IV 1-1 at IV 1.4.4).
  • Pools — Companies may adopt a pool structure for financial reporting purposes that is different from the one they use for tax purposes. However, the financial reporting treatment is one of the criteria used by the IRS to evaluate a company’s pooling structure for tax purposes.
  • LIFO methods — Dollar-value computational methods may be different for book and tax reporting (see IV 3.2.2 for a description of the alternative methods).
  • Indices — Different methods may be used to determine indices for the double-extension and link-chain methods.
  • Accounting periods — Companies may use different fiscal year-ends for financial reporting purposes and federal income tax purposes. The FinREC LIFO guidance concludes that, when a company uses LIFO for income tax purposes and it has a financial reporting year-end that differs from its tax year-end, it should make a separate LIFO calculation for financial reporting purposes using its financial reporting year as a discrete period for that purpose.
  • Valuing increments — Companies may use different increment pricing methods for book and tax purposes (i.e., the earliest, average, or latest purchase price method).
  • Business combinations — For book purposes, the provisions of ASC 805 must be followed to determine the cost of inventory acquired in a business combination. Tax accounting may differ.

3.4.2 Supplemental disclosure of non-LIFO information

Companies using the LIFO inventory method may, in general, use a non-LIFO method to disclose information that supplements or explains the contents of the primary financial statements without violating the LIFO conformity requirements.
Notwithstanding any other considerations relevant to the disclosure of non-GAAP financial information by SEC registrants, the IRS has stipulated the following disclosure requirements for non-LIFO information disclosed in primary financial statements and other reports:
  • Notes — Non-LIFO inventory information may be disclosed in the notes to the financial statements if (1) all the inventory-related notes are presented together and (2) they accompany the income statement in a single report. Although non-LIFO information may not be reported on the face of a primary income statement as “supplemental information,” non-LIFO information may be presented in footnotes on the same page as the income statement as long as all footnotes relating to the income statement are presented together.
  • Balance sheet — IRS LIFO conformity requirements allow balance sheet disclosure of the asset value of inventory determined using a non-LIFO method. However, if the non-LIFO amounts are included in a GAAP balance sheet, they should be disclosed parenthetically or in a similar supplemental manner. Disclosure of inventory computed using a non-LIFO method is permitted only if (1) the disclosure is contained in a footnote to the balance sheet or presented parenthetically on its face or (2) the balance sheet is appropriately identified as supplemental or explanatory (e.g., a pro forma balance sheet reflecting inventory on a non-LIFO basis).
  • Appendices and supplements to the income statement — Non-LIFO information may be reported in an appendix or supplement to a company’s income statement if the appendix or supplement (1) accompanies the income statement in a single report and (2) the information reported in the appendix or supplement is clearly identified as a supplement to or explanation of the primary statement.
  • Other reports — Supplementary or explanatory non-LIFO income statement information (e.g., cost of goods sold, net income, earnings per share) may be disclosed in other reports without violating the LIFO conformity requirements. “Other reports” are items such as news releases, letters to shareholders or other owners, oral statements at press conferences, shareholders’ meetings, or securities analysts’ meetings, and sections of an annual report (such as the president’s letter, management’s discussion and analysis, and the statement of cash flows). The non-LIFO information in these reports must (1) be clearly identified as supplementary or explanatory and (2) repeat the LIFO-based amount of the specific item of information (e.g., cost of goods sold, net income, earnings per share) being supplemented. It is not necessary to repeat the LIFO-based amount if the only supplementary or explanatory disclosure is the effect of using a non-LIFO method instead of a LIFO method. For example, reiteration of LIFO income is required if FIFO income is disclosed, but not if the only disclosure is the difference in income when using FIFO versus LIFO.
  • Internal management reports — Companies using LIFO may prepare internal management reports based on non-LIFO information. Generally, reports not distributed outside the company would be considered internal management reports. If shareholders receive internal management reports in their capacity as directors, the reports should be clearly identified as internal management reports and not as shareholder reports. If a subsidiary is a member of a group and issues financial reports to its parent, these reports are not internal management reports and are therefore subject to the LIFO conformity requirements. On the other hand, the subsidiary may issue internal management reports to its managers who are also shareholders of the parent. These reports should be clearly identified as internal management reports and their use should be restricted to management purposes.
The SEC staff’s position in SEC FRP 205 differs in some respects from the IRS LIFO conformity disclosure requirements described above. When such additional supplemental disclosures are presented, the registrant should consider FRP 205, which indicates the SEC’s concerns regarding disclosure of non-LIFO information is mitigated if registrants (1) state clearly that the use of LIFO results in a better matching of costs and revenues, (2) explain why the non-LIFO disclosures are provided, and (3) present information about how the supplemental non-LIFO income amounts were calculated.
The LIFO conformity rules are complex. Since a violation of these rules could result in an involuntary termination of the LIFO method (i.e., the LIFO reserve would be included in income in the year of the conformity violation), which would trigger current income tax consequences, care should be exercised when preparing the disclosure of any non-LIFO information.
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