Comm'r of Internal Revenue

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Tax Court of the United States.Aug 31, 1955
24 T.C. 973 (U.S.T.C. 1955)

Docket No. 50124 50125 54165.



David P. Brown, Jr., Esq., and A. Stuard Young, Jr., Esq., for the petitioners. Max J. Hamburger, Esq., for the respondent.

Respondent sustained in his determination that petitioners, whose books were kept on an accrual basis, should have reported their income for taxation on an accrual basis in conformity with the books of account. David P. Brown, Jr., Esq., and A. Stuard Young, Jr., Esq., for the petitioners. Max J. Hamburger, Esq., for the respondent.

Respondent determined deficiencies in income tax of petitioner in Docket No. 50124 and of petitioners in Docket No. 50125 and 54165, as follows:

+--------------------+ ¦Docket No. 50124 ¦ +--------------------¦ ¦Year ¦Deficiency ¦ +------+-------------¦ ¦1946 ¦$10,322.95 ¦ +------+-------------¦ ¦ ¦ ¦ +--------------------+

Docket Nos. 50125, 54165 Year Deficiency 1945 $2,635.74 1947 7,621.63 1948 5,346.76 1949 128.02

Certain issues raised in the pleadings have been resolved by stipulation of the parties. The sole question remaining is whether petitioners properly reported their taxable business income on a cash basis of accounting for each of the taxable years 1945 through 1949, or whether such income should properly have been reported on an accrual basis, as determined by respondent. The parties agree that there is no deficiency as to the year 1949.


The stipulation of facts filed by the parties, with an exhibit attached, is adopted and, by this reference, made a part hereof.

The petitioners herein are Charles D. Mifflin and his wife Anne, whose address during the years involved was in Trenton, New Jersey. Petitioners filed joint income tax returns for the taxable years 1945, 1947, 1948, and 1949 with the then collector of internal revenue for the first collection district of New Jersey at Camden. Petitioner Charles D. Mifflin filed his individual income tax return for the taxable year 1946 with the same collector. For convenience, Charles D. Mifflin will hereinafter be referred to as the petitioner.

Petitioner, at all times during the years here at issue, conducted, as a sole proprietor, a business as a retailer, principally of pianos and organs, in Trenton, New Jersey, under the name of Mifflin Pianos, which business was founded in 1935. In addition to the purchase and sale of new and used pianos, Mifflin Pianos also sold radios, televisions, and miscellaneous merchandise. The following table reflects the purchases and sales of Mifflin Pianos during the years involved; its increase in accounts receivable during each respective year; its opening and closing inventory for such years; and the additional income determined by respondent on an accrual method:

+-----------------------------------------------------------------------------+ ¦ ¦1945 ¦1946 ¦1947 ¦1948 ¦1949 ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Purchase of new pianos¦$21,535.15¦$56,300.93¦$55,052.64¦$65,171.29¦$49,174.66¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Sale of new pianos ¦39,181.00 ¦90,713.00 ¦103,264.25¦113,242.63¦84,259.34 ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Purchase of used ¦ ¦4,220.00 ¦3,824.00 ¦90.00 ¦1,240.00 ¦ ¦pianos ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Sale of used pianos ¦ ¦11,191.00 ¦17,867.40 ¦12,679.62 ¦13,209.25 ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Purchase of organs and¦ ¦ ¦ ¦ ¦5,616.82 ¦ ¦sonovoxes ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Sale of organs and ¦ ¦ ¦ ¦ ¦13,246.00 ¦ ¦sonovoxes ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Cash sales ¦35,923.08 ¦77,165.04 ¦64,195.04 ¦61,806.73 ¦57,458.42 ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Credit Sales ¦4,486.00 ¦27,671.45 ¦59,027.35 ¦66,129.41 ¦66,406.40 ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Total sales ¦40,409.08 ¦104,836.49¦123,222.39¦127,936.14¦123,864.82¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Purchase of radios and¦ ¦4,543.51 ¦2,816.97 ¦2,382.99 ¦16,993.21 ¦ ¦TVs ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Sale of radios and TVs¦ ¦2,344.60 ¦3,933.27 ¦3,679.01 ¦16,822.65 ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Purchase of misc. ¦224.99 ¦84.47 ¦1,596.99 ¦2,924.80 ¦1,618.96 ¦ ¦items ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Sale of misc. items ¦1,228.08 ¦587.89 ¦239.37 ¦694.88 ¦342.63 ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Increase in accounts ¦8,305.13 ¦19,503.11 ¦20,393.15 ¦20,431.36 ¦9,878.04 ¦ ¦receivable ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Additional income ¦ ¦ ¦ ¦ ¦ ¦ ¦determined on accrual ¦8,121.23 ¦20,531.15 ¦20,020.47 ¦19,618.59 ¦(5,518.42 ¦ ¦method ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Inventory at beginning¦3,133.72 ¦2,466.00 ¦15,818.38 ¦11,657.32 ¦16,989.21 ¦ ¦of year ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦Inventory at end of ¦2,466.00 ¦15,818.38 ¦11,657.32 ¦16,989.21 ¦21,336.93 ¦ ¦year ¦ ¦ ¦ ¦ ¦ ¦ +----------------------+----------+----------+----------+----------+----------¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ +-----------------------------------------------------------------------------+

The parties have stipulated that when the business of Mifflin Pianos was organized in 1935, its books of account were established on an accrual basis of accounting, on which basis they have been, and continue to be, maintained. Such books were originally set up in 1935 by Anne Mifflin, a petitioner herein, who will hereinafter be called Anne, without benefit of accounting or tax advice. During the years here in issue, Anne continued to do all the posting and make all the entries in such books. Since 1938, her work has been supervised by various certified public accountants. The services rendered by these accountants to Mifflin Pianos, in addition to supervising its books, included general business accounting and tax advice.

Petitioner's first income tax returns reflected the business income of Mifflin Pianos for the years 1935, 1936, and 1937 and were prepared by an employee of the office of the collector of internal revenue located in Trenton. For each of these years, Anne took the books of Mifflin Pianos, consisting of a cash book, a record of expenses, and a book for accounts receivable, to such collector's office to have that office prepare the returns. The aforementioned employee prepared the returns on a cash receipts and disbursements basis and such returns were so filed. On petitioner's 1935 return, question nine, with regard to the basis on which his books are kept, is answered ‘Cash.’ On all of petitioner's income tax returns, the schedules reporting income from the business (Schedule C of the returns 1945-1949) used opening and closing inventories in the determination of cost of goods sold but did not report accounts receivable or accounts payable.

During the years 1945 through 1949, Mifflin Pianos attempted to obtain from piano manufacturers, one of each of several models or organs produced by each, which it used as floor samples for inspection by, and demonstration to, prospective purchasers. Sales from floor samples were not generally made except at a customer's insistence, in which case a similar model would then be ordered for replacement of the floor sample. Pianos were ordered as sold. The stock of pianos held by Mifflin Pianos for the years 1945 through 1949 consisted principally of floor samples. During this period, also, petitioner acquired used pianos as trade-ins. Petitioner also purchased used pianos when the need arose. During the same period, when it was possible to obtain skilled labor, trade-in pianos were reconditioned, and the resultant increase in their market value was reflected on the books in the account showing used pianos on hand.

For the years 1945-1949, inclusive, Mifflin Piano's record of new and used units of pianos and organs indicates the number of such units, by description and model number, held on December 31 of each year to have been as follows:

+----------------------+ ¦New ¦ +----------------------¦ ¦December 31 ¦Units ¦ +--------------+-------¦ ¦1944 ¦2 ¦ +--------------+-------¦ ¦1945 ¦5 ¦ +--------------+-------¦ ¦1946 ¦20 ¦ +--------------+-------¦ ¦1947 ¦15 ¦ +--------------+-------¦ ¦1948 ¦25 ¦ +--------------+-------¦ ¦1949 ¦23 ¦ +----------------------+

The foregoing includes several pianos of similar make and model in a number of categories.

+----------------------+ ¦Used ¦ +----------------------¦ ¦December 31 ¦Units ¦ +--------------+-------¦ ¦1944 ¦13 ¦ +--------------+-------¦ ¦1945 ¦34 ¦ +--------------+-------¦ ¦1946 ¦38 ¦ +--------------+-------¦ ¦1947 ¦38 ¦ +--------------+-------¦ ¦1948 ¦25 ¦ +--------------+-------¦ ¦1949 ¦30 ¦ +----------------------+

The total dollar value of the units of all goods of every description on hand at the end of each of the years in issue, and of 1944, as shown on petitioner's income tax returns, was:

+------------------------+ ¦December 31 ¦Value ¦ +--------------+---------¦ ¦1944 ¦$3,133.72¦ +--------------+---------¦ ¦1945 ¦2,466.00 ¦ +--------------+---------¦ ¦1946 ¦15,818.38¦ +--------------+---------¦ ¦1947 ¦11,657.32¦ +--------------+---------¦ ¦1948 ¦16,989.21¦ +--------------+---------¦ ¦1949 ¦21,336.93¦ +------------------------+

Of the dollar value of all types of goods on hand at the end of each year, as hereinabove set forth, radios, televisions, and miscellaneous merchandise were included at the following amounts of dollar values:

+-----------------------+ ¦December 31 ¦Value ¦ +--------------+--------¦ ¦1945 ¦$238.00 ¦ +--------------+--------¦ ¦1946 ¦3,439.42¦ +--------------+--------¦ ¦1947 ¦1,902.73¦ +--------------+--------¦ ¦1948 ¦376.61 ¦ +--------------+--------¦ ¦1949 ¦4,587.00¦ +-----------------------+

The dollar value of the pianos and organs, both new and used, included in the total value of goods on hand at December 31 of each year was:

+------------------------+ ¦December 31 ¦Value ¦ +--------------+---------¦ ¦1945 ¦$2,228.00¦ +--------------+---------¦ ¦1946 ¦12,378.96¦ +--------------+---------¦ ¦1947 ¦9,754.59 ¦ +--------------+---------¦ ¦1948 ¦16,612.60¦ +--------------+---------¦ ¦1949 ¦16,749.93¦ +------------------------+

The foregoing increases in number and dollar value of units or new pianos and organs on hand at the end of each of the years in issue were due not only to increased prices of new merchandise, the new pianos being valued at cost, but also to the fact that each manufacturer had several new models which Mifflin Pianos floor sampled. Also, Mifflin Pianos increased its samples from those of two manufacturers in 1945 to those of several additional manufacturers by the end of 1949. Such samples were limited to one model of each manufacturer's line, not all models being sampled. The increase in dollar value of pianos on hand was also due to the occasional ability to rebuild and refinish used pianos, thereby adding sometimes many hundreds of dollars to the value of each used piano thus rebuilt, these pianos being valued at market value.

The units of sales by Mifflin Pianos of all types of merchandise were, during the earlier years, principally upon cash terms. The number of sales transactions of all items sold during the years 1945 to 1949, inclusive, both cash and credit, were as follows:

+------------------------------------------------------------------+ ¦ ¦Cash Sales ¦Credit sales ¦Total sales ¦ +----+-------------------------------------------------------------¦ ¦Year¦ ¦ +----+-------------------------------------------------------------¦ ¦ ¦No. sales¦Amount ¦No. sales¦Amount ¦No. sales¦Amount ¦ +----+---------+----------+---------+---------+---------+----------¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ +----+---------+----------+---------+---------+---------+----------¦ ¦1945¦100 ¦$35,923.08¦11 ¦$4,486.00¦111 ¦$40,409.08¦ +----+---------+----------+---------+---------+---------+----------¦ ¦1946¦166 ¦77,165.04 ¦66 ¦27,671.45¦232 ¦104,836.49¦ +----+---------+----------+---------+---------+---------+----------¦ ¦1947¦132 ¦64,195.04 ¦104 ¦59,027.35¦236 ¦123,222.39¦ +----+---------+----------+---------+---------+---------+----------¦ ¦1948¦114 ¦61,806.73 ¦114 ¦66,129.41¦228 ¦127,936.14¦ +----+---------+----------+---------+---------+---------+----------¦ ¦1949¦110 ¦57,458.42 ¦111 ¦66,406.40¦221 ¦123,864.82¦ +----+---------+----------+---------+---------+---------+----------¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ +------------------------------------------------------------------+

Sales with payment deferred for not more than 90 days were considered as cash sales in the above tabulation. On the books of Mifflin Pianos, such sales were entered the same as credit sales. The accounts receivable at the end of each of the years involved were as follows:

+----------------+ ¦1945¦$11,678.08 ¦ +----+-----------¦ ¦1946¦31,181.19 ¦ +----+-----------¦ ¦1947¦51,574.34 ¦ +----+-----------¦ ¦1948¦72,005.70 ¦ +----+-----------¦ ¦1949¦81,883.74 ¦ +----------------+

The full amount of all sales of pianos and other merchandise made during the years 1945 through 1949, whether cash or credit, was accrued on the books and records of Mifflin Pianos in the year of sale. In reporting gross sales on their income tax return, petitioner and Anne included only the cash received in the taxable year of the sale. Any unpaid balances due on 30- to 90-day sales, as well as long-term credit sales, both of which were included until payment was actually made in the later year. In computing cost of goods sold with respect to the same items, since more of the pianos were paid for prior to the end of the taxable year in which they were purchased (and sold), petitioner and Anne, on their tax returns, deducted the full amount of the cost of the units in the taxable year of sale; they did not include as income the credit portion which projected beyond such year. The sales of Mifflin Pianos became increasingly seasonal until, in the latter years here involved, possibly 60 per cent of its sales volume might have been obtained in the last 3 months of the year.

Respondent has accepted the returns filed by petitioner on a cash basis from the year 1935 to 1943. He first objected to petitioner's reporting income on such basis in connection with the return filed for the year 1944. In his examination of the 1944 return, respondent adjusted business income to the accrual basis, as a result of which he proposed a deficiency in tax for such year in a nominal amount. Petitioner did not agree, in principle, with such adjustment, but agreed under protest to pay and did pay the additional tax because of its nominal amount. The settlement with respect to the year 1944 was completed on September 10, 1948, by which date petitioner's income tax returns for the years 1945, 1946, and 1947 had been filed. Petitioner's income tax returns to and including the years here involved have been filed on a cash receipts and disbursements basis.

In determining the deficiencies for the taxable years 1945 through 1949, the respondent calculated net income on the accrual basis of accounting, basing his determination and computation on the books and records of the petitioner and Anne.



Fundamentally, the question presented is whether respondent may properly require petitioner to change his method of reporting business income from Mifflin Pianos, for the years involved, from a cash to an accrual basis.

There is no dispute that during the taxable years and for sometime prior thereto the books of Mifflin Pianos were kept on an accrual basis. Nor is it disputed that inventories were kept and utilized in connection with the computation of cost of goods sold reported on petitioner's tax returns for such years, which returns were on a cash basis. Despite this use of inventories however, petitioner, on brief, argues that due to the abnormal manner in which the selling operations of Mifflin Pianos were conducted, it really was unnecessary for him to use inventories and that, under the circumstances here present, a cash method of reporting more clearly reflects income than does an accrual basis. In this connection, petitioner even goes so far as to urge that, while he is mindful of his stipulation that the books were consistently maintained on an accrual basis, he would, at this point, question whether such system was not actually accrual in name only.

In view of the facts found on this record, we think that the foregoing argument is not open to petitioner, and completely misses the mark. The fact is that petitioner did make use of inventories, whether or not it was actually necessary to do so, in computing cost of goods sold for each of the taxable years before us. Moreover, petitioner's stipulation with regard to the method of accounting employed in maintaining the books of Mifflin Pianos closes the question to any further discussion.

Petitioner's method of computing and reporting his income in the returns for each of the years in controversy was in direct violation of section 41 of the Internal Revenue Code of 1939, which section provides that net income for income tax purposes shall be computed in accordance with the method of accounting regularly employed by the taxpayer in keeping his books, provided, however, that if such method does not clearly reflect income, the method, which in the opinion of the respondent does clearly reflect income, shall be used. Here, respondent does not question the accounting method used in maintaining the books of Mifflin Pianos as clearly reflecting its income. Rather, it is respondent's position that the books of account so maintained adequately and clearly reflect income, and that petitioner should compute and report his income from this source in conformity therewith. We agree with respondent.

SEC. 41. GENERAL RULEThe net income shall be computed upon the basis of the taxpayer's annual accounting period (fiscal year or calendar year, as the case may be) in accordance with the method of accounting regularly employed in keeping the books of such taxpayer; but if no such method of accounting has been so employed, or if the method employed does not clearly reflect the income, the Computation shall be made in accordance with such method as in the opinion of the Commissioner does clearly reflect the income. * * *

The respondent may in his discretion, in order to reflect income accurately, require a taxpayer to change his method for reporting income for income tax purposes, and his action to such end will be upheld unless an abuse of discretion be shown. C. L. Carver, 10 T.C. 171, 173, affd. 173 F.2d 29. Cf. William Hardy, Inc., 82 F.2d 249. No such showing is here made. That respondent accepted petitioner's returns over a period of years without question and did not in ay such year require the change he now would order, is immaterial. C. L. Carver, supra; Z. W. Koby, 14 T.C. 1103. Furthermore, we do not know, nor are we concerned with, how or why the employee of the collector's office, who originally filled out petitioner's return, concluded that petitioner's books were maintained on a cash basis and that therefore his returns should be so filed. It may have been due to the fact that petitioner's books at that time were apparently of the single entry type, which type is ordinarily maintained on a cash basis, or it could have been due to error or oversight. One conjecture is as good as another. See C. L. Carver, supra. In any event respondent is now estopped thereby to require petitioner to change his method of reporting to conform with that on which his books are maintained, which method respondent has determined clearly reflects petitioner's income.

Nor are we impressed with petitioner's argument emphasizing the consistency of the method of reporting followed by him. Such method has been consistent chiefly in its inconsistency with the method employed in keeping petitioner's books of account.

Accordingly, we sustain respondent's determination, and hold that petitioner's method of reporting his business income from Mifflin Pianos during the years in dispute should properly have been on an accrual basis of accounting in conformity with the books of account so maintained. See also Caldwell v. Commissioner, 202 F.2d 112.

Respondent having effected a change in petitioner's reporting method for the year 1944, to which change and necessary adjustments to accounts receivable petitioner agreed, albeit under protest, the question sometimes encountered with respect to any adjustments in opening accounts receivable for the year 1945 is not here posed.

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