By Brian T. Wallace, CPA & Partner, Withum

 

With industry-wide inventory shortages abound, many dealers have struggled to hold on to incoming inventory to meet the market demands. With some of the fluctuations in sales for new- and used-car dealerships, it will pose some problems going into year-end tax planning scenarios for those that have been valuing inventory under the LIFO accounting method. 

Depending on the size of your LIFO reserve and the size of your inventory now in relation to the prior year, you could be in for a sizable income pick-up which could have an impact on future tax scenarios for either the dealership or the pass-through owners. 

This, combined with expected income pick-up associated with PPP loan forgiveness (note that the expenses contributing to the non-taxable forgiveness income are nondeductible essentially making the forgiveness itself taxable), could combine for a one-two punch that hinders your dealership’s cash flow coming out of the first quarter of 2021. 

One consideration would be electing off of LIFO. 

 

Typically, with an accounting method change, you could elect to take in the reserve evenly over four years, reducing your potential tax event in the current year and taking advantage of what remains of some of the more favorable tax years ahead (think qualified business income (QBI) deduction). Not only would this apply for new-car LIFO but, it could apply to many other inventory-based tax deferrals including dealer trade discounts. 

Make sure you consult with your dealership tax professionals at year-end planning to make sure a proper LIFO estimate is indexed. While dealers are coming out of some record-breaking gross profit months, it still is important to keep cash reserves, and good tax planning is key to making sure the cash remains in your dealership in times when it is needed. 

I am working with local and national industry groups to assess the need for congressional relief, as this clearly is an unintended consequence of the government-mandated shutdowns associated with the COVID-19 pandemic. However, dealerships should not count on this relief and should reach out to their tax advisors to develop a strategy to minimize tax liabilities and help dealers hang onto cash.

 

Withum was named by Forbes in 2020 as being among America’s top recommended tax and accounting firms.