Peck & Hills Furniture Co. v. Commissioner

PECK & HILLS FURNITURE CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Peck & Hills Furniture Co. v. Commissioner Docket No. 16108. United States Board of Tax Appeals 16 B.T.A. 1008; 1929 BTA LEXIS 2476; June 11, 1929, Promulgated *2476 1. Petitioner's closing inventory for the fiscal year involved, determined. 2. The value of a certain leasehold at the date it was acquired by the petitioner determined. J. Marvin Haynes, Esq., for the petitioner. Brice Toole, Esq., for the respondent. MARQUETTE *1009 In this proceeding the petitioner seeks a redetermination of a deficiency in income and profits taxes asserted by the respondent for the fiscal year ended June 30, 1920, in the amount of $9,476.63. Three issues are raised by the pleadings: (1) Respondent's rejection of the inventory valuation based upon cost or market, whichever is lower; (2) respondent's refusal to include in invested capital the actual cash value of a certain leasehold acquired as the result of a merger; and (3) respondent's failure to compute the profits tax under the provisions of section 328 of the Revenue Act of 1918. A motion to confine the hearing to the trial of issues defined in subparagraph (a) of Rule 62 was granted. FINDINGS OF FACT. The petitioner, a Delaware corporation with its principal office at Chicago, Ill., is engaged in the business of jobbing in carpets, rugs, furniture and*2477 house furnishings. At the close of the fiscal year the petitioner had a considerable quantity of merchandise on hand at its various branches, located at New York, Chicago, Denver, Los Angeles, and San Francisco. In its original return the petitioner, in accordance with its consistent practice in prior years, valued its merchandise inventory at cost. On December 30, 1920, more than three months after the due date for filing the return for the fiscal year in question, the then Commissioner of Internal Revenue, with the approval of the Secretary of the Treasury, promulgated Treasury Decision 3108, which reads as follows: Valuation of Inventories: Article 1582, Regulations 45, is hereby amended to read as follows: "ART. 1582. Valuation of inventories. - Inventories must be valued at (a) cost or (b) cost or market, as defined in article 1584 as amended, whichever is lower. (See article 1585 for inventories by dealers in securities.) Whichever basis is adopted must be applied consistently to the entire inventory. A taxpayer may, regardless of his past practice, adopt the basis of 'cost or market, whichever is lower,' for his 1920 inventory, provided a disclosure*2478 of the fact and that it represents a change is made in the return. Thereafter changes can ba made only after permission is secured from the Commissioner. Inventories should be recorded in a legible manner, properly computed and summarized, and should be preserved as a part of the accounting records of the taxpayer. Goods taken in the inventory which have been so intermingled that they can not be identified with specific invoices will be deemed to be the goods most recently purchased." (T.D. 3108, signed by Paul F. Myers, Acting Commissioner of Internal Revenue, and dated December 30, 1920. Law Sec. 203, Art. 1582.) *1010 On May 3, 1921, the petitioner requested, by letter, the permission of the respondent to file an amended return for the fiscal year in question and to value the inventory, for the purposes of the amended return, on the basis of cost or market, whichever is lower. Permission to do so was granted by the respondent by letter dated June 4, 1921. Accordingly, the petitioner revised its inventory and filed an amended return. As a result of this revision, the inventory was reduced by the amount of $523,706.25, market being below cost at the close of the year. *2479 The respondent rejected the revised inventory figure, and has computed the net income by use of an inventory valuation based upon cost. The value of the inventory, based upon cost or market, whichever is lower, is $2,215,704.68. Prior to June 22, 1906, Jay C. Hills, president of the petitioner, secured from the estate of S. J. Howard, a lease of certain land known as 1351, 1353 and 1355 South Wabash Avenue, Chicago, Ill., at a specified rental for a period of 99 years, effective June 22, 1906. As a condition of such lease, the trustees of the estate agreed to advance to Hills, individually, $100,000 for the purpose of assisting him in erecting a building. Shortly after Hills secured the lease, he transferred it to the Manufacturer's Furniture Exchange, a corporation organized for the purpose of holding the lease. Beginning in July, 1906, the Manufacturer's Furniture Exchange erected a building on the leased premises. The building is eight stories and a basement, and is of reinforced concrete construction with an exterior of brick, and covers a lot that has a frontage of 71 feet upon Wabash Avenue and 171 feet upon Fourteenth Street and runs back to an alley. The property*2480 is very close to the retail automobile and furniture centers in Chicago. On February 28, 1917, the stockholders of the Manufacturer's Furniture Exchange exchanged their stock in that company for stock of the petitioner. The exchange was on the basis of three shares of stock of the Manufacturer's Furniture Exchange for two shares of stock of the petitioner. Thereafter, on June 16, 1917, the petitioner dissolved the Manufacturer's Furniture Exchange and on that date became the owner of the lease in question by virtue of this dissolution. The fair market value of the lease at the date it was acquired by the petitioner was $400,000. The respondent determined that the leasehold had a fair market value of $200,000, and he included it in the petitioner's invested capital at that amount. OPINION. MARQUETTE: The petitioner's right to value its closing inventory for the fiscal year 1920, upon the basis of cost or market, whichever *1011 is lower, in accordance with the provisions of Treasury Decision 3108, does not appear to be disputed by the respondent, though if it were, we should not hestitate to say that upon the facts presented the respondent could not successfully*2481 challenge that right. Cf.J. w. and A. P. Howard Co.,15 B.T.A. 1096. The issue necessitates only a decision as to the value of the closing inventory, upon the basis of cost or market, whichever is lower. As to that, the evidence submitted by the petitioner is complete and convincing, and it has enabled us to find that such value is $2,215,704.68. The revision of the inventory valuation to the cost or market basis was accomplished by petitioner's officers in collaboration with the revenue agent who examined the books for the years in question. More than four months were taken up by the work of this revision. Every effort was made, which could reasonably be expected to be made, to secure complete and authentic data as to market conditions, and the entire work of revision was carried on in a sincere effort to reach a result that would meet the requirements of respondent's regulations. Three witnesses who have been in the petitioner's employ in executive and managerial capacities for periods of 17 to 34 years, who did the buying and selling for the petitioner, who were in close contact with the markets and knew the conditions of the markets at June 30, 1920, and*2482 who actually supervised the revision of the inventory, testified in detail as to the procedure followed and as to the method of pricing the various classes of merchandise in the inventory. Their testimony is corroborated by that of the former revenue agent who worked with them in the revision of the inventory. He testified that he checked and verified all of the inventory figures submitted to him. There are filed with his report to the respondent, as exhibits, copies of about 200 letters from manufacturers from whom the petitioner made its purchases, giving information as to market conditions and quotations, as of the inventory date. These were obtained at his solicitation for the purpose of verifying market prices submitted to him by petitioner's officers. He testified, also, that during the course of his examination he held a great many conferences with representatives of manufacturers for discussing market conditions, with a view to verifying his own conclusions and those of petitioner's officers as to the market value of various classes of merchandise in the inventory. In his report to the respondent, he recommended the acceptance of an inventory valuation based upon cost*2483 or market, whichever is lower, of $2,215,167.20. The testimony of these witnesses leaves no doubt in our minds that the figure of $2,215,704.68 fairly reflects the value of the inventory in question, upon the basis of cost or market, whichever is lower, *1012 and net income should be recomputed upon the basis of a closing inventory of that amount. The only other question is as to the value of the leasehold that the petitioner acquired upon the dissolution of the Manufacturer's Furniture Exchange. We are satisfied from the evidence presented to us on this issue that the leasehold had a fair market value of $400,000 when the peitioner acquired it. It should, therefore, be included in the petitioner's invested capital for the fiscal year ended June 30, 1920, in the amount of $400,000, with proper allowances for exhaustion since the date of acquisition. The hearing and determination of the Board was limited in the first instance to issues other than those specified in Rule 62(b) and (c), and, in view of our determination in respect thereof, the net taxable income of the petitioner will be reduced and its invested capital will be increased. Therefore, the issue as to*2484 special assessment may not be longer urged by petitioner. The respondent is therefore directed to file with the Board a computation of the tax liability for the taxable year. If upon the filing and service of such computation, petitioner desires to proceed further under Rule 62(b) on the issue of abnormalities, and files a motion to that effect, the proceeding will be placed upon the day calendar on the abnormality question; otherwise, judgment will be entered under Rule 50.