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TAX CLINIC

and generally affect all taxpayers with accordance with Regs. Sec. 1.263A-3(a)
inventory. Rev. Proc. 2019-43 provides (4)(i), taxpayers engaged in both A reseller may
favorable administrative guidance that production and resale activities may
allows taxpayers to file an accounting generally use the simplified production use any of several
method change to comply with the method or the modified simplified methods to
final regulations for the first, second, or production method but not the simpli-
third tax year ending on or after Nov. fied resale method to capitalize costs to allocate Sec. 263A
20, 2018, under the automatic proce- ending inventory. costs to ending
dures without regard to the five-year For resellers with production activi-
scope limitation provided in Section ties, the practice unit discusses two ex- inventory.
5.01(1)(f) of Rev. Proc. 2015-13. The ceptions. First, Regs. Sec. 1.263A-3(a)
LB&I practice unit was released near (4)(ii) provides that resellers otherwise
the end of this three-year period that permitted to use the simplified resale therefore found to be a manufacturer
taxpayers were granted to comply with method may use it if production ac- of its goods, rather than a reseller of
the final Sec. 263A regulations. LB&I’s tivities are de minimis. As described in private-label goods, and thus was not
issuance of a series of practice units Regs. Sec. 1.263A-3(a)(5)(i), produc- entitled to use the simplified resale
concerning the uniform capitalization tion activities are presumed to be de method. Resellers facing this issue
rules suggests that Sec. 263A computa- minimis if: (1) gross receipts from should take note of the degree of con-
tions for resellers (and taxpayers more the sale of property produced by the trol that they exercise over the supply
generally) could become a renewed reseller are less than 10% of the total chain, as they will often find that they
area of interest for the IRS dur- gross receipts of the trade or business; are not engaged in production activities
ing examination. and (2) the labor costs allocable to the and are therefore eligible to use the
The LB&I practice unit emphasizes trade or business’s production activi- simplified resale method.
key aspects of a reseller’s Sec. 263A ties are less than 10% of the reseller’s Also not addressed in the practice
computation that may be scrutinized total labor costs allocable to its trade or unit is the routine purchase order
during an IRS examination, which business. Additionally, a reseller oth- exception. Pursuant to Regs. Sec.
include: (1) the reseller’s production erwise permitted to use the simplified 1.263A-2(a)(1)(ii)(B)(2)(ii), a taxpayer
activities; (2) costs capitalized for resale method may use that method that meets the routine purchase order
financial statement purposes; (3) iden- even though it has personal property exception is not considered a producer
tification and allocation of additional produced for it under a contract with a and is therefore eligible to use the sim-
Sec. 263A costs; and (4) methods of third party (e.g., private-label goods), plified resale method.
capitalizing Sec. 263A costs to ending provided the contract manufacturing is
inventory. Further, the practice unit incident to its resale activities (see Regs. Identification of Sec. 471 costs
brings attention to other considerations, Sec. 1.263A-3(a)(4)(iii)). As outlined in the practice unit, exam-
including a taxpayer’s requirement to Often, a taxpayer will design a ining agents should review the types of
allocate additional Sec. 263A costs to product and have it produced to its costs capitalized for financial statement
self-constructed assets and related capi- specifications. A typical issue that arises purposes (Sec. 471 costs) to better
talized interest provisions, and certain is whether the taxpayer has engaged in determine the additional costs required
exceptions from computing additional production activities or is purchasing to be capitalized for tax purposes. Regs.
Sec. 263A costs for resellers. private-label goods. While the practice Sec. 1.263A-1(d)(2)(i) defines Sec.
unit does not address this issue, guid- 471 costs as the types of costs, other
Resellers with production ance may be found in Technical Advice than interest, that a taxpayer capital-
activities Memorandum (TAM) 200631029. In izes for financial statement purposes to
The practice unit suggests that an TAM 200631029, a taxpayer that used property produced or property acquired
examination will likely focus on the contract manufacturers demonstrated a for resale. Generally, the costs that a re-
extent to which a reseller is engaged in significant amount of control over the seller capitalizes for financial statement
production activities. As described in supply chain and the manufacturing purposes include more than just the
the practice unit, the volume of produc- process (i.e., selected suppliers from invoice price of its goods and include
tion activities performed by resellers which raw materials were sourced trade or other discounts, freight-in, and
affects the methods allowed for capital- and exercised strict oversight over the other necessary charges in acquiring
izing additional Sec. 263A costs. In manufacturing process, etc.) and was possession of the goods.

16 March 2022 The Tax Adviser