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Possible Tax Deduction for Subnormal Inventory Goods

In January 2009, we discussed the lower of cost or market method of valuing inventory. The rapid decline of many basic commodity prices could provide a tax deduction in 2008 for calendar year taxpayers who have inventory on hand at year-end. Please review our January Blackman Kallick Tax Highlights article, "Inventory Valuation—Lower of Cost or Market Could Be Beneficial for 2008" for more information.

In the January 2009 article, we note that the lower of cost or market inventory method applies to normal goods, but not to subnormal goods. In this article, we will review the definition of subnormal goods and what steps had to be followed in order to claim any tax deduction in 2008. Not surprisingly, book and tax methods differ.

The biggest question is, "Just what are "subnormal goods"? "Subnormal goods" is a tax term used to classify a portion of a taxpayer's inventory. Pursuant to Internal Revenue Regulation 1.471-2(c), subnormal goods are any goods in inventory that are unsalable at normal prices or unusable in the normal way due to damage, imperfections, changes of style or similar causes including secondhand goods exchanged in bartering transactions. Subnormal goods do not include excess merchandise. Subnormal goods may be valued at their bona fide selling price less the direct cost of selling, regardless of the inventory method that the taxpayer uses for valuing normal goods. For tax purposes, a sale does not have to occur before year-end. Unlike the deduction for lower of cost or market, subnormal goods are required to be offered for sale at a bona fide sales price in order to claim a deduction in the current year.

A bona fide sales price is the price at which the goods are actually offered for sale not more than 30 days after the inventory date. The burden is on the taxpayer to show that the goods were unsalable or unusable and to maintain sufficient records of the "offering price" to verify reduced inventory values for such items.

If you have any questions, contact Mike Calahan at mcalahan@BlackmanKallick.com or 312-980-2996 for more information. Our thanks to Greg Mudd for his contribution to this article.

This publication is part of Blackman Kallick’s marketing of professional services, and is not written tax advice directed at the specific facts and circumstances of any person and/or entity. Contents of this publication are of a general nature, and you should not act on this information without obtaining professional advice from your business advisor that is appropriately tailored to your individual needs and circumstances. This written advice is not intended or written to be used, and cannot be used by any taxpayer, for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.