BIR Ruling [DA-370-04]

July 1, 2004 BIR RULING [DA-370-04] 41; Sec. 145; RR #2; DA-420-2000 Philippine Fast Ferry Corporation Pier 4, North Reclamation Area, Cebu City, Philippines Attention: Ms. Beverly Tolentino Finance Team Leader Gentlemen : This refers to your letter dated November 17, 2001 requesting for an authority to change your Inventory Costing Method from manual First-In First-Out (FIFO) Method to Computerized Average Costing Method. It is represented that Philippine Fast Ferry Corporation (PFFC) is a domestic corporation duly licensed to operate as a common carrier. Its principal place of business is located at Pier 4, North Reclamation Area, Cebu City. The company changed its costing method when it implemented the Oracle Application Software for the computerized inventory system which was set by using the Average Costing Method. Prior to the implementation of the Oracle, the company was recording and monitoring its inventory manually using the FIFO method of costing. The company opted to computerize its inventory system consequent to the increasing volume of its spare parts inventory as required by its aging fleet of vessels. The management assumes responsibility to ensure that the financial statements encompassing the period of the change shall disclose the nature and the after-tax effect of the change on income for the current period. Considerably, the disclosure of the change shall be made even if there is no material effect on the current or prior periods. In reply, please be informed that on the basis of the above representations, PFFC is hereby granted permission to change its inventory costing method from manual first-in first-out (FIFO) method to computerized average costing method pursuant to the provisions of Section 41 of the Tax Code of 1997, in relation to Section 145 of Revenue Regulations No. 2, the pertinent provisions of which provide, viz : "SEC. 41. Inventories . Whenever in the judgment of the Commissioner, the use of inventories is necessary in order to determine clearly the income of any taxpayer, inventories shall be taken by such taxpayer upon such basis as the Secretary of Finance, upon recommendation of the Commissioner, may, by rules and regulations, prescribe as conforming as nearly as may be to the best accounting practice in the trade or business and as most clearly reflecting the income. "If a taxpayer, after having complied with the terms and conditions prescribed by the Commissioner, uses a particular method of valuing its inventory for any taxable year, then such method shall be used in all subsequent taxable years unless: "(i) with the approval of the Commissioner, a change to a different method is authorized; or "(ii) the Commissioner finds that the nature of the stock on hand (e.g., its scarcity, liquidity, marketability and price movements) is such that inventory gains should be considered realized for tax purposes and, therefore, it is necessary to modify the valuation method for purposes of ascertaining the income, profits, or loss in a more realistic manner: Provided, however, That the Commissioner shall not exercise his authority to require a change in inventory method more often than once every three (3) years: Provided, further, That any change in an inventory valuation method must be subject to approval by the Secretary of Finance. "Section 145. Valuation of Inventories . The law provides two tests to which each inventory must conform, (1) it must conform as nearly as possible to the best accounting practice in the trade or business, and (2) it must clearly reflect the income. It follows, therefore, that inventory rules can not be uniform but must give effect to trade customs which come within the scope of the best accounting practice in the particular trade or business. In order to clearly reflect income, the inventory practice of a taxpayer should be consistent from year to year, and greater weight is to be given to consistency than to any particular method of inventory or basis of valuation, as long as the method or basis used is substantially in accord with these regulations, an inventory that can be used under the best accounting practice in a balance sheet showing the financial position of the taxpayer is, as a general rule, regarded as clearly reflecting his income." This ruling is being issued on the basis of the foregoing facts as represented. However, if upon investigation, it will be disclosed that the facts are different, then this ruling shall be considered null and void. cAHIaE Very truly yours, (SGD.) JOSE MARIO C. BUAG Deputy Commissioner Legal and Inspection Group