6 January 1998 External T.I. 9818015 - CHANGE IN ACCOUNTING METHOD - PENSION FUNDS

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues: Can a pension plan change the accounting method for properties from average cost to LIFO or FIFO.

Position: Generally no.

Reasons:

1) For capital properties: specific item method. (average cost method for identical properties only).

2) For inventory: FMV or the lesser of cost and FMV (cost: specific item method. If not practical: average or FIFO method for identical properties only - LIFO is not acceptable).

3) Changing the use of a method: question to tax services office.

XXXXXXXXXX 5-981801
Fouad Daaboul
Attention: XXXXXXXXXX

January 6, 1999

Dear Sirs:

Re: Accounting in Pension Funds

We are writing in response to your letter of July 10, 1998, wherein you asked us to provide our comments as to whether a pension plan could choose to change its accounting method for properties held under the pension plan from average cost basis to another method such as last in first out (“LIFO”) or first in first out (“FIFO”). We also acknowledge the information provided during our telephone conversation (XXXXXXXXXX/Daaboul).

Although a registered pension plan is generally exempt from paying tax on its taxable income under one of the provisions of subsection 149(1) of the Income Tax Act (the "Act"), in computing that taxable income the pension plan could claim those deductions normally allowable under the Act in computing income from a business or property and would compute its cost amount of any property in the normal manner. Furthermore, the Act requires the computation of the cost amount of property for purposes of Part XI tax according to subsection 206(2) of the Act.

The term "cost amount" is defined in subsection 248(1) of the Act to mean different things depending upon whether the property in question is:

• depreciable property,
• capital property,
• property described in an inventory,
• eligible capital property,
• a right to receive an amount,
• a policy loan of an insurer, or
• some other type of property.

Accordingly, it is possible for a pension plan’s property to be capital property or inventory depending on the type of investment and whether or not it carries on a business. These are questions of fact.

A pension plan’s property can be "capital property" as defined in section 54 of the Act, notwithstanding that the pension plan might not have to compute any capital gains or capital losses for reporting purposes. The cost amount of a capital property is defined in subsection 248(1) of the Act to mean its "adjusted cost base" at the particular time. Because of the meaning given to "adjusted cost base" in section 54 of the Act, the cost amount of a capital property could change over time although, in general, the cost amount would be equal to its acquisition cost. Such acquisition cost would generally be equal to the fair market value of the capital property at the time of its acquisition and, accordingly, the cost amount of a capital property would normally be equal to its fair market value on the date of its acquisition.

However, where a pension plan acquires a property which is the same or identical to a previously-acquired property, subsection 47(1) of the Act provides rules to determine the cost of each identical property by using the average cost basis.

Where the pension plan’s property is an inventory item, the cost amount to the pension plan at a particular time will be its value at that time as determined for the purpose of computing the pension plan income according to subsection 248(1) of the Act. Subsection 10(1) of the Act and section 1801 of the Regulations provide two alternative methods of valuing inventory. These are:

1) valuation at the lower of cost or fair market value for each item (or class of items if specific items are not readily distinguishable) in the inventory;

2) valuation of the entire inventory at fair market value.

Paragraph 11 of Interpretation Bulletin IT-473 provides the following comments in respect of the methods of determining the cost of a property:

“Except where inventory is valued entirely at fair market value (section 1801 of the Regulations), a method must be chosen for identifying the costs which represent inventory at the end of the taxation year. Where it is practical to identify costs by reference to specific items, the cost is determined by ascertaining the laid-down cost of the specific items. If it is not practical to determine cost by reference to specific items, it is necessary to use an arbitrary cost selection method which has the effect of making a presumption as to the order in which inventory is sold. Among the methods most commonly used in determining cost are:

(a) specific item

(b) average

(c) first in first out (FIFO). The Department will not accept the last in first out (LIFO) method or the base stock method”.

In calculating income for 1990 and later taxation years, subsection 10(2.1) of the Act stipulates that a taxpayer must value inventory at the end of the year using the same method as the taxpayer used at the end of the previous year. Subsection 10(2.1) also contains an exception which permits a change in valuation method if the change is approved by the Department. A change in method of valuing the inventory will be accepted if it can be shown that considering the circumstances, the new method:

• is a more appropriate way of calculating the taxpayer's income,
• will be used for financial statement purposes by the taxpayer, and
• will be used consistently in subsequent years.

Should you desire a change in valuation methods, you may write to the Director of the Tax Services Office in the pension plan’s region and set out the reasons why the new method is more appropriate. As stated in paragraph 4 of IT-473, the letter should provide:

i. relevant financial statements and tax schedules,

ii. a summary of the effect of the change on the financial statements,

iii. a statement that the new method is in accordance with the financial statements, and

iv. an undertaking that the new method will be used consistently in subsequent taxation years.

We trust our comments will be of assistance to you.

Yours truly,

Paul Lynch
for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch

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