- 16 -
equivalent; i.e., base-year cost. 1 Schneider, Federal Income
Taxation of Inventories, sec. 14.01[1], at 14-4, 14-5 (1996).
The regulations contain four alternative approaches to
determine base-year cost: The double-extension method, the index
method, the link-chain method, and the retail method. Sec.
1.472-8(e)(1), Income Tax Regs. Investments used the “link-
chain” method of computing the base-year cost of the inventory in
its LIFO pools.6
More specifically, Investments used the link-chain, dual-
index method for the determination of quantity changes and for
the valuation of increments in its LIFO pools. Under the dual-
index method, a cumulative deflator index is used to value ending
inventory at base-year cost, and a layer-valuation index is used
to value increments in the pool.
Each year Investments calculates an annual and a cumulative
deflator index for each pool in order to convert current year
ending inventory at “actual cost”7 to what it would be at base-
6 Although the regulations do not contain a specific
description of the link-chain methodology, or an example of such
methodology, the parties have stipulated that Investments’ link-
chain methodology, as described below, was appropriate. For a
more detailed description of the link-chain methodology, see Rev.
Proc. 92-79, sec. 4, 1992-2 C.B. 457, 460 (describing alternative
LIFO method for automobile dealers); see also 1 Schneider,
Federal Income Taxation of Inventories, sec. 14.02[3][b], at 14-
96 (1996).
7 In arriving at the actual cost of its ending inventory in
its new car and new truck pools each year, Investments uses the
actual invoice cost of each vehicle in inventory.
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