SECTION 2. BACKGROUND

.01 In general. Section 472(a) of the Internal Revenue Code provides that a

taxpayer may use the LIFO inventory method of inventorying goods if, among other requirements, the change to, and use of, the method is in accordance with such regulations as the Secretary may prescribe as necessary in order that the use of the method may clearly reflect income.

.02 Dollar-value LIFO method. Section 1.472–8(a) of the Income Tax Regulations provides that any taxpayer may elect to determine the cost of its LIFO inventories under the dollar-value LIFO method of accounting, provided such method is used consistently and clearly reflects income in accordance with the rules of that section.

.03 Link-chain method. Section 1.472–8(e)(1) permits the use of a “linkchain” method of computing the LIFO value of a dollar-value pool if the “double-extension” method and an “index” method would be impractical or unsuitable in view of the nature of the inventory in the dollar-value pool. Further, in applying a link-chain method, an index may be computed by “double extending” a representative portion of the inventory in a dollar-value, link-chain pool at both the current-year cost and the prior-year cost. Additionally, an index may be computed under a link-chain method using other sound and consistent statistical methods.

.04 Acceptable methods. Under existing LIFO inventory provisions, there are three general dollar-value LIFO methods:

(1) Simplified dollar-value LIFO method.

(a) Section 474 provides an elective simplified dollar-value LIFO method for eligible small businesses. In general, a taxpayer is an eligible small business for any taxable year if its average annual gross receipts for the three preceding years do not exceed $5,000,000.

(b) The simplified dollar-value LIFO method under § 474 is based on a so-called link-chain method of computing the LIFO value of an inventory pool. Under § 474, inventory pools are established by the major categories in the applicable Government price index, and an annual index for each pool is obtained from that Government price index. Therefore, under § 474, an eligible automobile dealer uses a single inventory pool for new automobiles and new trucks under the major category, transportation

August 18, 1997 14 1997–33 I.R.B.

plicable Government price index. The stated percentage is 80 percent unless a taxpayer qualifies as an eligible small business under § 474, in which case the stated percent is 100 percent.

(3) General dollar-value LIFO method.

(a) If an automobile dealer does not want to use either the simplified dollar-value LIFO method for certain small businesses provided in § 474 of the Code (if the taxpayer is eligible) or the IPIC method provided in § 1.472–8(e)(3), the automobile dealer may use the general dollar-value LIFO inventory rules contained in § 1.472–8. Under these general rules, an automobile dealer establishes inventory pools for each separate trade or business under § 1.472–8(c) by major lines, types, or classes of goods (for example, one separate pool for all new automobiles and another separate pool for all new trucks). See Fox Chevrolet, Inc. Maryland v. Commissioner, 76 T.C. 708 (1981), acq., 1984–2 C.B. 1, and Richardson Investments, Inc., and Sub- sidiaries v. Commissioner, 76 T.C. 736 (1981).

(b) An automobile dealer may use the double-extension method, an index method, or a link-chain method, to compute the LIFO value of its inventory pools. Under all three of these methods, automobile dealers use their own cost data to compute the index for each pool. Because of the nature of the items in their pools, automobile dealers generally use a link-chain method. The annual index for each pool under the link-chain method is computed by “double extending” (that is, pricing) the vehicles (or “items”) in each inventory pool as of the close of the taxable year at the automobile dealer’s own current year cost and at the automobile dealer’s own prior-year cost. For each pool, the total current-year cost of the vehicles in ending inventory is divided by the total prior-year cost of the vehicles in ending inventory to compute the annual index for the current year. The vehicles used to determine the dealer’s own prioryear cost of vehicles in the current year’s ending inventory must be comparable to the vehicles used to compute the currentyear cost of vehicles in the current year’s ending inventory. For purposes of this revenue procedure, this is referred to as the § 1.472-8 “comparability requirement.”

.05 New alternative method. In addition to the three general dollar-value LIFO methods briefly described in section 2.04 of this revenue procedure, this revenue procedure provides an additional dollar-value LIFO method for automobile dealers, the Alternative LIFO Method. This method is described in section 4 of this revenue procedure.