How LIFO Could Stall Global Accounting

Banned in Europe, the inventory reporting method and its tax treatment have staunch advocates in the United States.

Will the LIFO method of inventory accounting become a major stumbling block in efforts to get the United States to converge with the rest of the world on a single set of global financial-reporting standards?

At present, the matter does seem to be a case of an irresistible force (global convergence) running smack-dab into an immovable object (LIFO). And the barrier to using last-in, first-out inventory reporting under a single international framework is clear: International Financial Reporting Standards bar LIFO.

On this side of the Atlantic, the U.S. Internal Revenue Code also insists that companies must use the same system of reporting inventory financials to shareholders and lenders that the companies use to file with the taxman.

Thus, a company that uses LIFO now to report income and profit or loss from inventory is not in compliance with IFRS, nor could it continue to report LIFO numbers to the Internal Revenue Service if U.S. regulators start demanding that companies use the international standard rather than U.S. generally accepted accounting principles.

Yet for many LIFO users, the tax advantages may be too good to give up without a fight. “I don’t want to make an added tax payment as a result of changing to IFRS,” says Peggy Smyth, the vice president, controller of United Technologies Corp., which uses the method for part of its accounting for inventory.

Unlike first-in, first out (FIFO) accounting, LIFO bases the value of the cost of goods sold on a company’s most recent inventory purchases. In an inflationary environment, LIFO enables a company to report higher costs and lower profits than it would using FIFO. Because LIFO users are likely to report lower income in such an economy, they would pay less in income taxes than they would if they used FIFO.

While Smyth says that United Technologies supports the goal of “one global accounting standard,” she thinks that the LIFO issue is part of a broader tax conflict between IFRS and GAAP. Moving to IFRS could force companies to keep separate sets of books for financial reporting and tax purposes if U.S. companies continue to use GAAP as a basis for their tax returns, she thinks.

The issue could grab some of the spotlight from other convergence issues as the Securities and Exchange Commission mulls the responses to a concept release it issued in August. The release floated the notion that U.S. public companies should have the choice of using IFRS rather than GAAP. The question, in the SEC’s view, flowed naturally from its Nov. 15 decision to drop its requirement that non-U.S. companies reconcile their financial reporting with U.S. GAAP.

To be sure, regulators seem to be groping for a way out of the LIFO dilemma. At the Financial Executives International financial reporting conference in New York in November, Conrad Hewitt, the SEC’s chief accountant, said that the commission plans to discuss the conflict with the Internal Revenue Service.


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