Good dealers have addressed ideas and forces that have threatened their businesses over the last few years.
Now another formidable foe has been brought down. The Internal Revenue Service itself. Yes sir, a car dealership went toe to toe with the IRS, lost in Tax Court, but went on to win on appeal in the Circuit Court of Appeals.
The decision in Coggin v. the IRS provides potential planning opportunities.
Coggin was a holding company that owned a controlling interest in five subsidiary corporations that operated six automobile dealerships in Florida. Coggin was a C corporation and filed a consolidated income tax return with the subsidiaries.
Each of the subsidiary dealership corporations maintained their vehicle inventories using the LIFO method. The holding company maintained no inventory of its own. Coggin went through certain restructuring transactions that had two primary goals.
First, Coggin wanted to create limited partnerships with the general manager of each dealership so that they would have a direct ownership interest and participation in the profits of their respective dealerships.
Second, Luther Coggin, the holding company's primary shareholder, wanted to facilitate an effective way for the general managers to buy him out.
The partnership structure combined with an S election was determined to be the way to go. Six new corporations, owned by Luther Coggin and other shareholders of the holding company, were formed.
These new corporations all elected to be S corporations. Next, six limited partnerships were formed to hold each of the dealership's operating assets. Similarly the general managers contributed certain assets in return for a limited partnership interest.
Shortly after the restructuring the holding company made an S election. In doing that, Coggin did not recapture the LIFO reserves formerly held in the subsidiaries and now in the limited partnerships.
The IRS said Coggin had to recapture and pay tax on LIFO reserves. LIFO recapture is required when two tests are met:
First a C corporation must elect to be treated as an S corporation and second, the C corporation must have inventoried goods using the LIFO inventory method.
Coggin met the first test. The second was at issue. The holding company never actually owned any inventory and thus did not meet the literal test for the second requirement. The IRS argued that the restructuring was conducted for the sole purpose to avoid taxes and that the LIFO inventory of the partnerships to the extent owned by the holding company should be attributed to the holding company, requiring LIFO recapture.
The dispute went to tax court. It ruled that the restructuring transaction did serve a sufficient business purpose but the LIFO reserves of the underlying partnerships should be attributed to and consequently recaptured by the Coggin holding company.
But the Court of Appeals for the 11th Circuit reversed the tax court. Simply stated, the holding company owned no inventory and therefore could not have LIFO recapture. Furthermore the court found no authority for attributing the inventory held by partnerships to the holding company.
The Court of Appeals' decision to reverse the Tax Court may provide an opportunity for certain holding companies with similar facts to make an S election without incurring LIFO recapture tax.
Other courts may or may not follow the ruling. In any case, it's nice to know that the IRS lost a round to one of our own.
Don Ray is a Senior Member of the George B. Jones Dealer Services division of Dixon Odom PLLC, a national accounting and consulting group for automobile dealers. He's at 901-684-5643
