If you are using the LIFO tax strategy, what should you do now?
Are there any dealers in your 20 group that had very profitable operations in 2020? The last thing they want now is to have more income by racking up a LIFO reserve clawback on top of their already considerable income for 2020. They are probably looking for ways to reduce their taxable income. For this lucky group, there are other alternatives to consider.
Right off the bat, if they’re not already on LIFO, maybe they should consider electing him. However, one hurdle here is dealing with financial statement compliance requirements, and these need to be carefully considered.
Another revenue reduction strategy can be considered by dealers, whether or not they use LIFO. This is to change the elimination of certain costs such as floor plan assistance payments, other trade discounts, and some advertising costs from the final inventory. But first you have to see if the dealer’s accounting practice for recording factory invoices is not already eliminating them. If the dealer is already on LIFO, this change can really be a power!
For a dealer who is already applying LIFO to new vehicles, expanding an existing LIFO choice for new vehicles to include used vehicles may be an option. For 2020, used vehicle inventory inflation rates are between 7% and 10%. This can make this strategy attractive. But some dealers we spoke to prefer to avoid this alternative, as used vehicle prices tend to fluctuate unpredictably and it could backfire and bite them in a year or two.
In addition, there are other factors to consider including whether it is cheaper or market write-downs and how hard the broker is trying to reduce taxable income in 2020.
Another scenario: Many dealers are already using the LIFO alternative method for new vehicles. For them, another option to consider is to switch to using the inflation indices calculated by the Bureau of Labor Statistics. This is called the inventory price index calculation method. This method is tricky once you get into the details, and it involves several sub-elections, including choosing which inflation index will be used.
1. Get an extension to file your 2020 tax return. Delay as long as possible the filing of your 2020 tax return. The further you go in the year, the more information you will have on what happened in 2021 and more the time between when you pull the trigger and commit to whatever alternative you choose and the end of the year will be short.
2. Cut down on the alternatives you are considering to dollars and cents. Calculate the exact amount of LIFO clawback. Your CPA should be able to do this and explain everything to you.
3. Run projections based on different scenarios using future inflation rates and assumed inventory levels. Take a short-term perspective – two or three years at most. In evaluating the alternatives, you need to be absolutely sure of the facts and math, and probably be careful with the assumptions.
4. Consider including a statement to choose Section 473 relief on your 2020 income tax return. NADA and others (including me) are trying to convince the Treasury and IRS that dealerships should benefit from it. a form of tax relief when the impact of the recovery of LIFO reserves is severe.