Rev. Rul. 88-84

1988-2 C.B. 124, 1988-40 I.R.B. 4.

                       Internal Revenue Service

                                 Revenue Ruling

              INVENTORIES; LIFO; FINANCIAL CONFORMITY REQUIREMENT

                           Published: October 3, 1988

26 CFR 1.472-2: Requirements incident to adoption and use of LIFO inventory method

  Inventories; LIFO; financial conformity requirement. The issuance of financial forecasts on a basis other than the LIFO inventory method by a taxpayer that uses the LIFO method for federal income tax purposes is not a violation of the LIFO conformity requirements contained in section 472(c) and (e)(2) of the Code.

  A corporation uses the accrual method of accounting and has elected to use the last-in, first-out (LIFO) method of valuing inventories for Federal income tax purposes. The corporation issues annual financial statements that reflect use of the LIFO inventory method. However, the entity issues financial forecasts to stockholders and creditors using the first-in, first-out (FIFO) inventory valuation method. These forecasts project an estimate of the corporation's most probable financial position, results of operations, and changes in financial position for each of the next five years.

  ISSUE. At issue is whether the corporation's use of the FIFO method for financial forecast purposes, while using the LIFO method for Federal income tax purposes, violates the conformity requirement of section 472(c) and (e)(2).

  HOLDING. The Service has held that the corporation's use of the FIFO method for financial forecast purposes, while using the LIFO method for Federal income tax purposes, does not violate the conformity requirement of section 472(c) and (e)(2).

  ANALYSIS. Essentially, the Service explained, a taxpayer that uses the LIFO method may do so only if no method other than LIFO has been used 'in valuing inventory to ascertain the income, profit, or loss of the first tax year for which the method is used, for the purpose of a report or statement for such year to shareholders, partners, or other proprietors, or to beneficiaries for credit purposes.' The legislative intent of the section 472 conformity rules, the Service added, is to ensure that the use of LIFO for tax purposes 'conforms as nearly as possible with the best accounting practice in the trade or business and provides for a clear reflection of income.' The Service concluded, though, that a 'forecast or projection is speculative and does not constitute a financial report that ascertains income, profit, or loss based on actual operations.' Consequently, the section 472(c) and (e)(2) conformity rules simply do not apply to the financial forecasts at issue; the forecasts' use of FIFO, then, does not violate the conformity rules.

                                     ISSUE

  If a taxpayer that uses the last-in, first-out (LIFO) inventory method for federal income tax purposes issues financial forecasts on a basis other than the LIFO method, do the forecasts violate the conformity requirement of section 472(c) and (e)(2) of the Internal Revenue Code?

                                     FACTS

  The taxpayer uses the accrual method of accounting and has elected to use the LIFO method of valuing inventories for federal income tax purposes. Annual financial statements are issued using the LIFO inventory method. In addition, the taxpayer issues financial forecasts to stockholders and creditors using the first-in, first-out (FIFO) method of inventory valuation.

  The taxpayer's financial forecasts project an estimate of its most probable financial position, results of operations, and changes in financial position for each of the next five years. The forecasts are not supplemental to other statements.

                                LAW AND ANALYSIS

  Section 472(a) of the Internal Revenue Code authorizes the use of the LIFO method  in inventorying goods.

  Section 472(c) of the Code provides that the LIFO method may only be used if the taxpayer establishes that no method other than the LIFO method has been used in valuing inventory to ascertain the income, profit, or loss of the first tax year for which the method is used, for the purpose of a report or statement for such year to shareholders, partners, or other proprietors, or to beneficiaries, or for credit purposes. Section 472(e)(2) imposes similar restrictions for subsequent years.

  Section 1.472-2(e)(1) of the Income Tax Regulations provides that a taxpayer using the LIFO method in inventorying goods must establish to the satisfaction of the Commissioner that the taxpayer, in ascertaining the income, profit, or loss for the tax year for which the LIFO method is first used, or for any subsequent tax year, for credit purposes or for purposes of reports to shareholders, partners, or other proprietors, or to beneficiaries, has not used any inventory method other than the LIFO method.

  The conformity requirement had its origin in section 22(d) of the Internal Revenue Code of 1939. The legislative history states that the intent underlying the LIFO  conformity requirement is to ensure that the use of LIFO for tax purposes conforms as nearly as possible with the best accounting practice in the trade or business and provides for a clear reflection of income. S. Rep. No. 648, 76th Cong., 1st Sess. 6-7 (1939), 1939-2 C.B. 524, 528; H.R. Rep. No. 2330, 75th Cong., 3d Sess. 34 (1938), 1939-1 C.B. 817, 819.

  To ascertain income, profit, or loss, a taxpayer must refer to a past period of operation. A forecast or projection is speculative and does not constitute a financial report that ascertains income, profit, or loss based on actual operations. It is a statement that is based on future expectations and does not contain historical data, such as that contained in an annual financial statement. The LIFO conformity requirement contained in section 472(c) and (e)(2) of the Code does not apply to estimates of future income, profit, or loss.

                                    HOLDING

  The issuance of financial forecasts on a basis other than the LIFO inventory method by a taxpayer that uses the LIFO method for federal income tax purposes is not a violation of the conformity requirement of section 472(c) and (e)(2) of the Code.

                              DRAFTING INFORMATION

  The principal author of this revenue ruling is Richard Davis of the Corporation Tax Division. For further information regarding this revenue ruling contact Mr. Davis on (202) 343-2383 (not a toll-free call).

Rev. Rul. 88-84, 1988-2 C.B. 124, 1988-40 I.R.B. 4.